CBDC Lo Mas Nuevo

Within a few years, retail central bank digital currency
Central Bank Digital Currency: Considerations, Projects, Outlook

(CBDC) has morphed from an obscure fascination
of technophiles and monetary theorists into a major
preoccupation of central bankers. Pilot projects abound
and research on the topic has exploded as private
sector initiatives such as Libra/Diem have focused
policymakers’ minds and taken the status quo option
off the table.
In this eBook, academics and policymakers review the

economic, legal and political implications of CBDC; they
discuss current projects; and they look ahead. While
consensus on the ‘right’ CBDC choices remains elusive,
common perspectives begin to emerge. First, money,
banking and payments are ripe for upheaval, with or
without CBDC. Second, the key risk of CBDC is unlikely
to be bank disintermediation – privacy, information
more generally, and politics may be more critical. Third,
the use case for CBDC must be clarified, country by
country. It may not exist, because of alternative, better
solutions to the existing problems. And fourth, as the
implications of CBDC go far beyond the remit of central
banks, parliaments and voters should have the final say.
Edited by Dirk Niepelt
Central Bank Digital

Currency: Considerations,
ISBN: 978-1-912179-54-1 Projects, Outlook
ISBN 978-1-912179-54-1
9 781912 179541
Central Bank Digital Currency
Considerations, Projects,
Outlook
CEPR PRESS
Centre for Economic Policy Research

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London, EC1V 0DX
UK
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ISBN:
Copyright © CEPR Press, 2021.

Central Bank Digital Currency
Considerations, Projects,
Outlook

CENTRE FOR ECONOMIC POLICY RESEARCH (CEPR)
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Chair of the Board Sir Charlie Bean
Founder and Honorary President Richard Portes
President Beatrice Weder di Mauro
Vice Presidents Maristella Botticini
Ugo Panizza
Philippe Martin
Hélène Rey
Chief Executive Officer Tessa Ogden
Contents
Foreword vii
Introduction 1
Dirk Niepelt
Part I: Considerations
Central bank digital currency, bank intermediation and payments 9
Jonathan Chiu and Francisco Rivadeneyra
Information, privacy and central bank digital currency 17
Todd Keister and Cyril Monnet
Central bank digital currencies and data in the digital age: A triple imperative 23
Raphael Auer, Sebastian Doerr, Jon Frost, Leonardo Gambacorta
and Hyun Song Shin
The right and duty of central banks to issue retail digital currency 31
Corinne Zellweger-Gutknecht
‘Reserves for All:’ Political rather than macroeconomic risks 39
Dirk Niepelt
Facing the central bank digital currency trilemma 45
Linda Schilling, Jesús Fernández-Villaverde and Harald Uhlig
Can central bank digital currency transform digital payments? 51
Antonio Fatas
Central bank digital currency: Is it really worth the risk? 57
Stephen G. Cecchetti and Kermit L. Schoenholtz
Central bank digital currency, FinTech and private money creation 65
Markus Brunnermeier and Jonathan Payne
How will digital money impact the international monetary system? 73
Tobias Adrian and Tommaso Mancini-Griffoli
Stablecoins as alternatives for central bank digital currency? 81
Quentin Vandeweyer
Part II: Projects
An overview of the Bank of Canada CBDC project 89
Jonathan Chiu and Francisco Rivadeneyra
The role of central banks when cash is no longer king: Perspectives from
Sweden 99
Martin Flodén and Björn Segendorf
The Eurosystem’s digital euro project: Preparing for a digital future 111
Katrin Assenmacher and Ulrich Bindseil
Central bank digital currency: A solution in search of a problem? 119
Christopher J. Waller
On the necessity and desirability of a central bank digital currency 127
David Andolfatto
Building a stronger financial system: Opportunities for a digital dollar 137
Darrell Duffie
How to provide a secure and efficient settlement asset for the financial
infrastructure of tomorrow 147
Andréa M. Maechler and Andreas Wehrli
Central bank digital currencies: Taking stock of architectures and technologies 155
Raphael Auer, Giulio Cornelli and Jon Frost
Foreword
Central bank digital currencies (CBDCs) are receiving more attention than ever before.
vii
Yet the motivations for issuance vary across countries, as do the policy approaches and
technical designs. As yet, no major jurisdiction has launched a CBDC, and many open
questions remain. Monetary authorities, fearful of being left behind by innovations in the
private sector, have increasingly turned from observers into participants.
This book brings together contributions from academics and experts from monetary
authorities and international organisations to provide a detailed and insightful overview
of the key considerations of current CBDC developments worldwide. Specific chapters
discuss the economic, legal and political implications of CBDC implementation, as well as
assessing existing initiatives and reflecting on the future of the digital financial landscape.
What is clear from the research is that there are no ‘right’ choices for monetary authorities
when considering CBDC. However, the debate has clearly narrowed and the implications
are now better understood, with issues of privacy, politics and information increasingly
coming to the fore. Concerns have also broadened beyond the domains of payments,
monetary policy and financial stability, which have generated a consensus that parliaments
and voters – not just central banks – should actively join the debate.
The book is an output from CEPR’s Research and Policy Network on FinTech and Digital
Currencies, which was established in 2018 to generate, coordinate and disseminate
impactful research about the optimal policies to deal with these fast-moving changes in
financial markets. The eBook provides a useful guide for policymakers to navigate the
complex and fast-moving world of financial digitalisation and should help to inform the
design of pilot projects and the direction of future research.
CEPR is grateful to Dirk Niepelt for his expert editorship of this eBook. Our thanks also
go to Anil Shamdasani for his skilled handling of its production, and to Kirsty McNeill
for her contributions towards its production.
CEPR, which takes no institutional positions on economic policy matters, is delighted to

provide a platform for an exchange of views on this important topic.
Tessa Ogden
Chief Executive Officer, CEPR
November 2021
Introduction
Dirk Niepelt
Study Center Gerzensee, University of Bern and CEPR 1
When CEPR’s Research and Policy Network on FinTech and Digital Currencies took up
INTRODUCTION | NIEPELT
its work in 2018, research on retail central bank digital currency (CBDC) was scarce.
Discussions in policy circles frequently associated CBDC with cryptoassets, stablecoins
or distributed ledger technology (DLT). Only a few early movers among monetary
authorities contributed to the debate or ran pilot projects; many central bankers and
policymakers rejected CBDC proposals.
Over the last three years, both the pilot projects and a body of new research, including
the first eBook published under the auspices of the network (Fatás 2019), have improved
our understanding of the issues at stake. Many central banks have concluded that private
sector initiatives have taken the status quo option off the table (Niepelt 2019). And as a
consequence, more and more monetary authorities have morphed from observers into
active contributors, albeit often sceptical ones.
While the discussion about the ‘right’ CBDC choices – no, or yes and how – is far from
settled, the arguments have become sharper and the trade-offs clearer. It has become
evident that the implications of CBDC extend far beyond the realms of payments,
monetary policy and financial stability. And consequently, there is growing awareness
that parliaments and voters – not only central banks – should actively join the debate.
In this eBook, prominent contributors to the CBDC debate share their views and
venture to predict the future. The group of authors comprises experts from academia
as well as monetary authorities and international organisations including the Bank for
International Settlements, Bank of Canada, European Central Bank, Federal Reserve
Bank of St. Louis, Federal Reserve Board, International Monetary Fund, Riksbank
and Swiss National Bank.1 Their backgrounds are in financial economics, international
economics, law, macroeconomics and monetary economics.
1 Most contributors are members of the network. The views expressed by the contributors do not necessarily represent the
positions of the institutions the authors are affiliated with.
CONSIDERATIONS
The contributions in the first part of the eBook focus on specific aspects or implications
of CBDC.
2
Jonathan Chiu and Francisco Rivadeneyra discuss the consequences of CBDC for bank
intermediation. They emphasise that CBDC might ‘crowd in’ rather than ‘crowd out’ bank
CENTRAL BANK DIGITAL CURRENCY: CONSIDERATIONS, PROJECTS, OUTLOOK
intermediation, by disciplining banks in imperfectly competitive deposit markets; and

that this effect may operate even without interest on CBDC. The authors note that bank
deposits and CBDC would likely constitute imperfect substitutes and in a world with
CBDC, banks might participate in the provision of CBDC-related services. They discuss
channels through which this might moderate or exacerbate the impact of CBDC on bank
profits.
Todd Keister and Cyril Monnet focus on information aspects of digital payment
technologies. They explain how bundling, network effects and consumers’
underinvestment in privacy give rise to market power on digital platforms and undermine
risk-sharing. The authors argue that a CBDC that allows the purchaser’s identity to be
hidden could help improve outcomes by giving consumers control over their data. In
addition, CBDC would help preserve financial stability by providing useful aggregated
payment information for central banks. They conclude that an appropriately designed
CBDC would increase depositor confidence, rendering runs less likely.
Raphael Auer, Sebastian Doerr, Jon Frost, Leonardo Gambacorta and Hyun Song Shin
similarly emphasise the centrality of data in the context of digital payments. They argue
that monetary authorities need to foster competition, ensure data privacy and safeguard
the integrity of the payment system. And they suggest that CBDC can help attain these
goals as long as it is integrated in a two-tier architecture, is account-based and preserves
an innovation-friendly level playing field.
Corinne Zellweger-Gutknecht offers a legal perspective. Placing central bank money in

its historic context, she argues that the mandate of central banks to issue cash implies
a right – and a duty – to also issue CBDC as a digital equivalent and complement to
notes and coins if declining cash circulation makes such a complement necessary. She
emphasises that the situation is different for CBDC as a monetary policy tool, as the
introduction of CBDC with functionality beyond the one of cash would require a change
of law.
Dirk Niepelt emphasises political risks. He argues that central banks can neutralise the
effects of CBDC on bank balance sheets, funding costs, credit and investment, but that
political pressure may lead them to act differently. He estimates the increase in funding
costs that banks might suffer in a (for them) worst-case scenario to be in the order of
half a percent of GDP, and cautions that CBDC might lead to further politicisation of
banking and central banking. He also discusses other political risks in connection with
the introduction of ‘Reserves for All’.
Linda Schilling, Jesús Fernández-Villaverde and Harald Uhlig consider possible
implications of CBDC for price stability. They argue that central banks can be subject
to ‘spending runs’ where fear of inflation motivates consumers to spend (central bank)
money, rendering the fear self-fulfilling. They emphasise that this run risk creates a
trilemma if the central bank also engages in maturity transformation: while the threat 3
of central bank induced inflation can deter runs, the goals of price stability, absence
of spending runs and maturity transformation cannot be reconciled. The authors also
discuss time inconsistency problems and warn of dangers for central bank independence.
Antonio Fatás questions the transformative role of CBDC. He identifies two types of
CBDC benefits: one from publicly providing a robust pillar of the monetary system;
and the other from supplying an accessible, efficient and resilient alternative to private
digital money. He argues that account-based CBDC could provide the monetary anchor,
realising the first benefit, while inclusiveness, efficiency and resiliency goals would be
hard to reconcile due to conflicting implications for payment infrastructures or public-
private partnerships. He concludes that “CBDC is in no way a substitute for the needed
reforms to the architecture of payments”.
Similarly, Stephen Cecchetti and Kermit Schoenholtz call for the policy objectives to
be clarified. While acknowledging various potential benefits of CBDC, they caution that
these benefits come with risks, especially when government institutions are weak. The
authors emphasise that it is not sufficient for CBDC to generate positive net gains; after
all, alternatives to CBDC may realise the same benefits at lower cost. Accordingly, they
conclude that such alternatives need to be assessed more carefully.
Markus Brunnermeier and Jonathan Payne focus on the bundling of money creation
and financial services. They argue that CBDC could impair the synergies and valuable
incentive effects of bundling deposit (money) creation and bank lending in today’s
financial system. And they explain how CBDC as legal tender could undermine the
commitment benefits of bundling FinTech token creation and smart contracts, at least
in some markets. The authors caution that the implications of CBDC for financial market
structure deserve careful attention.
Tobias Adrian and Tommaso Mancini-Griffoli offer an international perspective. They

anticipate CBDC benefits from greater efficiency and resiliency of payment systems,
financial inclusion and smoother cross-border payments, as well as risks due to bank
disintermediation, central bank reputation loss and ‘dollarisation’. The authors discuss
measures to limit these risks and emphasise the need for a rules-based international
monetary system that avoids a ‘digital divide’ between countries.
In the final chapter of the first part, Quentin Vandeweyer considers the role of stablecoins.
He notes three policy positions on stablecoins that emphasise financial stability risks,
innovation and complementarities with CBDC, and he compares the contemporary
debate about cash reserve assets versus crypto-collateralised or algorithmic stablecoins
with the debate about bank notes two centuries ago. He also discusses the role of a two-
tier CBDC for broadening access to central bank liquidity and concludes that stablecoins
are here to stay but that an overhaul of the regulatory framework may be needed to fully
realise their potential.
4
PROJECTS
The contributions in the second part of the eBook focus on projects in specific monetary
areas or offer an overview over such projects.
Jonathan Chiu and Francisco Rivadeneyra report on the Canadian case. They explain
how the Bank of Canada’s contingency plan builds on the question of what role publicly
provided money should play, and how this role can be inferred from the multiple
contemporary functions of cash. Against this background they systematically assess
the opportunities and risks of CBDC and point to open questions. They conclude
that the “decision to issue a CBDC belongs ultimately to Canadians and their elected
representatives”.
Martin Flodén and Björn Segendorf offer a Swedish perspective. They argue that the
convertibility of privately issued krona into base money could soon be called into question
due to declining cash use; the digital payments landscape might lower the threshold
for currency substitution and increase fragility; and the marginalisation of cash could
undermine credibility. They describe the Riksbank’s responses as well as scenarios for the
future, including building a national financial market infrastructure and giving FinTechs
direct access to it. Like Chiu and Rivadeneyra, Flodén and Segendorf emphasise the need
to involve decision makers outside of the central bank.
Katrin Assenmacher and Ulrich Bindseil report from Frankfurt. They describe
motivations for and possible consequences of CBDC, both with regards to the payments
system and macroeconomic stability. They argue that the design of a digital euro would
entail a trade-off between usability for end-users on the one hand, and system-wide
stability on the other. And they predict that a digital euro would only be introduced if
policymakers were highly confident about their ability to manage possible risks.
Three chapters focus on the US case. Christopher Waller questions the usefulness of a
CBDC. He argues that cash will not disappear soon; the payment system works well;
financial inclusion does not require CBDC; private sector initiatives such as stablecoins
could suffice to compress bank markups; and CBDC need not spur innovation, deter the
use of crypto-assets or help the US preserve dollar supremacy, while it could generate
new types of risk. Waller concludes that absent a clear market failure the government
should not compete with private sector financial service providers.
David Andolfatto shares Waller’s scepticism but he discounts fears that CBDC might
disintermediate banks or promote runs. He cautions that adoption of CBDC should not be
taken for granted and even if adoption were widespread, efficient cross-border payments
would still require international cooperation. Andolfatto emphasises the market power
of credit card companies and banks, but he concludes that the most promising way
forward may not be the introduction of CBDC but rather to promote entry, for instance
by granting ‘narrow bank charters’ to new financial services providers.
Darrell Duffie emphasises bank market power and problems in the US payment system.
5
He argues that a public-private CBDC pilot would generate benefits (even if Congress
eventually decided against deployment) in the form of learning by doing, technological
spillovers, competition and US participation in international discussions. Among the
main challenges of CBDC, Duffie identifies the trade-off between privacy and enforced
legality of payments; the threat of government stifling innovation; and operational
risks, but not disintermediation or runs. Like Waller and Andolfatto, Duffie rejects
international currency competition as a convincing motive for a digital dollar.
Andréa Maechler and Andreas Wehrli discuss the role of wholesale rather than retail
central bank digital currency. They argue that securing the safety and integrity of
payments in a DLT-based financial architecture requires a suitable integration of central
bank money rather than stablecoins or other private payment instruments. The authors
report on two approaches currently being tested in Switzerland: one building on the
existing real-time gross settlement system, and the other using wholesale central bank
digital currency.
Raphael Auer, Giulio Cornelli and Jon Frost conclude the second part of the eBook with
an overview of ongoing CBDC projects. They report that most central banks view CBDC
as a complement to, not a substitute for, cash that they would deploy relying on public-
private partnerships rather than by directly engaging with retail users. The authors also
report that there is less agreement concerning the importance of improved cross-border
payments or the advantages of account- versus token-based CBDC models, while most
central banks agree on rejecting architectures based on permissionless DLT.
OUTLOOK
In addition to contributing chapters to this eBook, many authors also submitted responses
to five questions about likely future developments. The first four questions conditioned
on a scenario in which central banks in developed economies introduce (retail) CBDCs.
We asked them to predict:
1. whether the typical CBDC would resemble deposits or cash (considering features
like interest, privacy, risk of ‘loss’, etc.);
2. who would interact with end users (e.g., the central bank or commercial banks in
some form of public-private partnership);
3. whether the CBDCs would undermine monetary sovereignty in emerging

economies; and
4. whether they would reduce the political support for cash.

In the fifth question, we inquired about the consequences of not introducing CBDC:
5. Suppose the central bank in a developed economy does not introduce retail CBDC
and cash use declines, reducing the general public’s exposure to central bank
money. Is there a risk that the general public loses trust in central bank money?
6
The responses to question 1 differed widely. A majority of the respondents expects the
‘typical’ CBDC to resemble deposits from the perspective of end-users, but experts
disagreed as to whether CBDC would be interest-bearing and whether privacy protection

would be stricter than today with deposits.
Regarding question 2, the respondents widely agreed: they expect banks and other
private service providers to interact with end-users.
In response to question 3, many experts anticipated some risks for monetary sovereignty
in emerging economies; how large these risks would be would depend on international
cooperation as well as CBDC design choices in the developed world – for instance,
regarding know-your-customer regulation or restrictions on CBDC holdings for
foreigners.
The answers to question 4 about dwindling political support for cash differed maximally,
ranging from an unconditional “no” to “yes in the medium term” or even “yes, rather
rapidly”.
Finally, regarding question 5, several respondents do see a danger that declining cash
circulation in combination with no CBDC could undermine the trust in central bank
money. Some experts cautioned, however, that such an effect would only arise in the limit
once cash effectively disappeared. Others emphasised that price stability would remain
the most important determinant of trust in the national currency.
REFERENCES
Fatás, A (ed.) (2019), The Economics of FinTech and Digital Currencies, CEPR Press.
Niepelt, D (2019), “Libra paves the way for central bank digital currency”, VoxEU.org, 12
September.
ABOUT THE AUTHOR
Dirk Niepelt is Director of the Study Center Gerzensee; Professor at the University of
Bern; President of the Swiss Society of Economics and Statistics; and Leader of the
CEPR Research and Policy Network on FinTech and Digital Currencies. His research
covers topics in macroeconomics, monetary economics, international finance, and public
finance, and he is the author of the MIT Press textbook Macroeconomic Analysis. Dirk
Niepelt received his PhD in economics from MIT and he holds licentiate and doctorate
degrees from the University of St. Gallen.
PART I
CONSIDERATIONS
CHAPTER 1
Central bank digital currency, bank 9
intermediation and payments
CENTRAL BANK DIGITAL CURRENCY, BANK INTERMEDIATION AND PAYMENTS | CHIU AND RIVADENEYRA
Jonathan Chiu and Francisco Rivadeneyra1
Bank of Canada
INTRODUCTION
It is commonly believed that the issuance of central bank digital currency (CBDC)
could have important implications for the banking and payment industry. In particular,
one frequently raised policy concern is that a CBDC, by competing with banks in the
provision of payment balances and services, could crowd out banking and reduce deposit
and credit creation. To investigate this question, Chiu et al. (2019) construct a theoretical
model where the banking sector is subject to imperfect competition. According to the
study, introducing a CBDC does not necessarily lead to disintermediation if banks
possess market power in the deposit market. By offering an outside option to depositors,
the CBDC helps discipline the market power of banks. In general, the impact of the CBDC
on banking is non-monotonic in the interest rate paid on the CBDC. Interestingly, the
CBDC expands deposit and credit creation when its interest rate lies in an intermediate
range and causes disintermediation only if the rate is set too high. Furthermore, even
a non-interest-bearing CBDC can help restrain banks’ market power as the use of cash
continues to decline over time. In this chapter, we summarise the main findings of this
paper and suggest several directions for future research on this topic.2
INTEREST-BEARING CBDC CAN CROWD IN BANKING
In the model studied by Chiu et al. (2019), banks are intermediaries that make loans to
entrepreneurs and create deposits used by households as a means of payment to trade
consumption goods. In addition, the central bank issues two other payment instruments:
cash and CBDC. As in the real world, the model features different types of transactions.
In some transactions, cash is the only viable payment method (e.g. offline transactions).
In some other transactions, cash is not accepted and only deposits are used (e.g. online
transactions on the internet). There are also transactions where all payment instruments
1 The views expressed in this chapter are those of the authors and not necessarily the views of the Bank of Canada.
2 Other papers studying the implications of CBDC for banking include Andolfatto (2020), Brunnermeier and Niepelt (2019)
and Keister and Sanches (2019).
can be used (e.g. transactions in physical retail stores). The authors focus on a deposit-
like CBDC which is a perfect substitute for deposits in terms of payment functions and
bears an interest rate chosen by the central bank.
An important feature of the model is that banks are subject to imperfect competition.3
10
The paper finds that, when banks have market power in the deposit market, introducing
a CBDC can ‘crowd in’ bank intermediation. The reason is that, in an imperfectly
competitive deposit market, banks restrain the supply of deposit to keep the deposit
interest rate below the competitive level. By offering an outside option to depositors,
the introduction of the CBDC effectively sets an interest rate floor for bank deposits and
reduces commercial banks’ incentive to restrain their deposit supply.
FIGURE 1 EFFECTS OF THE INTEREST RATE ON CBDC
Source: Chiu et al. (2019).
Figure 1 illustrates the equilibrium effects of changing the CBDC interest rate (ie) on
the deposit rate, the loan rate and their difference (in the top panels), as well as the
percentage changes of deposits, loans and total output relative to the equilibrium without
a CBDC (in the bottom panels). When the CBDC rate is set lower than the prevailing
deposit interest rate (i.e. the horizontal region in the plots), there are no effects on the
equilibrium rates and quantities. Beyond that level, as the CBDC interest rate rises,
banks will be forced to raise the deposit interest rate to match that of the CBDC. The
higher rate will attract more deposits. This corresponds to the intermediate region where
deposits increase gradually to the peak level. As long as the profit margin is positive,
banks will be induced to use the extra deposit funding to finance more loans, leading to
3 For empirical evidence, see, for example, Dreschler et al. (2017) and Wang et al. (2018).
a lower loan interest rate and a narrower spread. Output goes up as a result of the higher
investment. Interestingly, in this intermediate region, the mere existence of a CBDC as
an outside option can raise deposits, loans and output even if CBDC has no market share.
In the third region where the CBDC interest rate is set so high that banks’ profits become
zero, however, any further increase in the CBDC interest rate will force banks to raise 11
the loan interest rate to break even, lowering deposits, loans and output. To quantify the
effects of CBDC, the model is calibrated to the US economy. The exercise suggests that at
the maximum, the introduction of a CBDC can increase loans and deposits by 1.96% and
the total output by 0.21%.
NON-INTEREST-BEARING CBDC IN A CASHLESS WORLD
The previous section focuses on an interest-bearing CBDC. Some central banks, however,
may not offer an interest on their digital currencies. Can a non-interest-bearing CBDC
still help discipline banks’ market power? Chiu et al. (2019) argue that it can still help
when the economy becomes increasingly cashless. Currently, cash competes directly with
bank deposits as a means of payments and a store of value. In a world where electronic
payments dominate, physical cash could be at risk of not being generally accepted as
a means of payments. In that scenario, banks would gain additional market power,
potentially leading to higher banking fees, lower interest rates on deposits, and at
times lower quality of bank services. The issuance of a non-interest-bearing CBDC with
basic payment functionalities could ensure that depositors’ outside options would not
be worsened relative to the status quo. A CBDC would be a new safe asset that could
be used as an outside option, like cash, as a store of value and as a method of payment
for transactions. The existence of cash and CBDC could provide competitive pressure,
potentially inducing banks to offer better terms and services.
Chiu et al. (2019) capture this idea in their model by assuming that a fraction, Δ, of sellers
choose not to accept cash. One interpretation is that some bricks-and-mortar sellers have
closed their physical stores and sell exclusively online, implying that more stores accept
only electronic payment methods. They compare the equilibrium outcomes with and
without a CBDC as Δ rises. In Figure 2, the solid blue line denotes the results without
a CBDC. As Δ increases, banks gain extra market power as deposits become a better
payment instrument relative to cash. Hence, banks can reduce the deposit interest rate as
depositors still choose to hold more deposits which can now be used in more transactions.
The dashed red curve denotes an economy with a non-interest-bearing CBDC. Again,
the CBDC imposes a floor on the deposit interest rate. When the floor becomes binding,
the CBDC prevents the deposit rate from going negative. In that case, banks will find it
optimal to create more deposits and make more loans, leading to higher output.
FIGURE 2 EFFECTS OF A NON-INTEREST-BEARING CBDC AS THE ECONOMY BECOMES
CASHLESS
12
Source: Chiu et al. (2019).
OTHER CONSIDERATIONS FOR FUTURE RESEARCH
The analysis above provides a stylised model for assessing the effects of CBDC on bank
intermediation. To deepen our understanding of the question, future research can extend
the study along several lines discussed below.
Attributes of payment balances

Many studies treat CBDC and bank deposits as perfect substitutes in terms of their
payment functions. However, there are other important attributes differentiating a
CBDC from bank deposits. In a recent study, Li (2021) models cash, demand deposits and
CBDC as product bundles of attributes and estimates households’ preferences for these
different product attributes. Her empirical study is based on a unique Canadian survey
dataset which contains information on households’ asset holdings and their perceptions
towards different product attributes. The author uses the estimated preference to predict
the demand for CBDC with different design features and assesses the impacts of CBDC
on cash and demand deposit. Important attributes identified by the author include rate
of returns, usefulness for budgeting, anonymity and bundling of bank service. Future
research can explore trade-offs in CBDC design along these dimensions. Besides,
understanding the industrial organisation aspect of the payment industry (e.g. product
differentiation, switching costs, entry barriers, network effects) could be useful for
evaluating the equilibrium impacts of CBDC issuance on banks and other payment
service providers.4
13
Bank business model
Many existing studies focus on the impacts of CBDC issuance on banks’ funding costs. In
reality, a bank runs a more complicated business model and serves multiple, interrelated
functions:
• Payments: Many models suggest that when a central bank issues CBDC to compete
with banks in the provision of payment balances and services, banks’ income will
likely decline. One potentially important factor is the role of banks in the CBDC
system. If banks continue to play a major role in the provision of CBDC (e.g. account
administration, distribution, payment transfers), will the negative impacts be
mitigated? Will banks even benefit from the issuance of the CBDC, for example
by gaining an advantage over their non-bank competitors in the payment market?
Will this deter the entry of FinTechs and BigTechs into the payment industry?
• Credit: The above analysis examines the linkage between payments and credit
provisions and highlights that CBDC can affect credit creation by raising the
cost of funding. Another potentially important channel is related to information
acquisition. Payment data are a useful input into credit creation in screening loans
and monitoring borrowers (Parlour et al. 2020). Will the introduction of a CBDC
disrupt this business model by unbundling the complementary payment and credit
services offered by banks?
• Maturity and liquidity transformation: Banks specialise in creating short-

term, liquid liabilities to finance long-term, illiquid investments. By offering a safe
account where depositors can park their wealth in crisis times, will CBDC affect the
risk and liquidity properties of bank deposits, destabilising the transformation of
maturity and liquidity?5
• Account custodianship: Banks also administer accounts that hold financial assets
for their clients. Will introducing a CBDC facilitate or threaten this line of business?
Does the answer depend on whether CBDC is value-based or account-based? Do
account security, anonymity and interoperability matter? Will a programmable
CBDC reduce the demand for custodian service?
4 Huynh et al. (2020) quantify the effects of introducing a CBDC on Canadian consumers’ payment choices at the point of
sale.
5 Existing work related to this topic include Schilling et al. (2020), Keister and Monnet (2020), and Williamson (2020).
Evolving payments system
Finally, as the payment landscape evolves rapidly, future research should also study the
impacts of CBDC on unconventional payment services providers. For example, digital
platforms like Alibaba, Amazon, Facebook or Google have ventured into payment
14
services. BigTech companies can exert market power in their core service as a result of
network effects and high switching costs (e.g. social media network, search engine). They
often run a business model where user activities on their platforms generate valuable
data that can be monetised (e.g. ad targeting). While the introduction of payment services
can improve a platform’s core non-financial business and enhance both data generation
and monetisation, their venture into the payment industry can also lead to social welfare
costs such as consumer privacy loss, market concentration and disruption of financial
stability. Public policy needs to consider whether and how a CBDC should be designed
to compete with payment services offered by BigTechs (Chiu and Koeppl 2020). Another
trend is the fast-growing ecosystem of cryptocurrencies and decentralised finance. New
forms of money creation and shadow banks (e.g. USDT issued by Tether, DAI issued by
MakerDAO) have been emerging very rapidly to facilitate transactions in the crypto space.
Owing to their decentralised and borderless nature, developing appropriate regulations
and enforcing them are challenging. Future research should explore the potential role of
CBDC in the crypto space.
CONCLUSION
Depending on its design, CBDC could have significant effects on the business model
of banks and the future development of the payment ecosystem. While the CBDC will
compete with bank deposits, it does not necessarily lead to bank disintermediation.
There are still many open questions. To inform future policy discussion, it is crucial that
researchers explore further the positive and normative implications of CBDC issuance.
REFERENCES
Andolfatto, D (2020), “Assessing the Impact of Central Bank Digital Currency on Private
Banks”, The Economic Journal 131(634): 525–540.
Brunnermeier, M and D Niepelt (2019), “On the Equivalence between Private and Public
Money”, Journal of Monetary Economics 106(6): 27-41.
Chiu, J, S M Davoodalhosseini, J Jiang and Y Zhu (2019), “Bank market power and
central bank digital currency: Theory and quantitative assessment”, Bank of Canada
Staff Working Paper No. 2019-20.
Chiu, J and T Koeppl (2020), “Payments and the D(ata) N(etwork) A(ctivities) of BigTech
Platforms”, mimeo.
Dreschler, I, A Savov, and P Schnabl (2017), “The Deposit Channel of Monetary Policy”,
Quarterly Journal of Economics 132: 1819–1976.
Huynh, K, J Molnar, O Shcherbakov and Q Yu (2020), “Demand for Payment Services

and Consumer Welfare: The Introduction of a Central Bank Digital Currency”, Bank of
15
Canada Staff Working Paper 20-7.
Keister, T and C Monnet. (2020), “Central Bank Digital Currency: Stability and
Information”, mimeo.
Keister, T and D Sanches. (2019), “Should Central Banks Issue Digital Currency?”, Federal
Reserve Bank of Philadelphia Working Paper 19-26.
Li, J (2021), “Predicting the Demand for Central Bank Digital Currency: A Structural
Analysis with Survey Data”, mimeo.
Parlour, C A, U Rajan and H Zhu (2020), “When FinTech Competes for Payment Flows”,
available at SSRN.
Schilling, L, J Fernández-Villaverde and H Uhlig (2020), “Central Bank Digital Currency:

When Price and Bank Stability Collide”, available at SSRN.
Wang, Y, T Whited, Y Wu and K Xiao (2018), “Bank Market Power and Monetary Policy
Transmission: Evidence from a Structural Estimation”, mimeo.
Williamson, S. (2020), “Central Bank Digital Currency and Flight to Safety”, Journal of
Economic Dynamics and Control, May: 104146.
ABOUT THE AUTHORS
Jonathan Chiu is the Director of the Banking and Payments Research Team at the Bank
of Canada. His main research interests concern monetary theory, banking, payments
and financial infrastructures. His current research focuses on cryptocurrency, central
bank digital currency, and payments services provided by digital platforms. He also
teaches monetary theory at Queen’s University. Jonathan received his PhD in economics
from the University of Western Ontario.
Francisco Rivadeneyra is the Director for CBDC & FinTech Policy at the Bank of Canada.
He leads the team developing policy advice in areas of central bank digital currency,
electronic money and payments, and the implications for central banks of broader
financial innovations. He also is an active researcher working in the intersection
of technology, payments infrastructures and finance. His current research studies
the security and convenience trade-off of digital currencies and the use of artificial
intelligence in the liquidity management problem of commercial banks. Mr. Rivadeneyra
holds a PhD in Economics from the University of Chicago.
CHAPTER 2
Information, privacy and central bank 17
digital currency
INFORMATION, PRIVACY AND CENTRAL BANK DIGITAL CURRENCY | KEISTER AND MONNET
Todd Keister and Cyril Monnet
Rutgers University; University of Bern and Study Center Gerzensee
In a 2012 article in The New York Times, Charles Duhigg recounts the story of the father
who was angry because Target, a store chain, had sent his teenage daughter coupons
for baby clothes and other items appropriate for pregnant women. It turns out that
statisticians at Target had been working on an algorithm that used purchase histories to
assign a probability of being pregnant to each customer. The algorithm was correct; to
her father’s surprise, the teenage girl was indeed pregnant.
While it can be surprising how much information about one’s personal situation can be
inferred from purchase data, the reason Target developed these algorithms is perhaps
more interesting. Duhigg explains that people tend to change their purchasing habits
in defining moments of their lives, such as marriage or divorce, the start of a new job or
– especially – the birth of a child. These events give retailers like Target an opportunity
to attract customers as they set new spending patterns that will persist into the future.
DATA AND MONOPOLIES
That story broke in 2012. Fast forward to the present, where people increasingly shop
on digital platforms such as Amazon. These platforms have massive amounts of data
available to them. Their business relies heavily on data accumulation, both directly and
through purchases, and data analysis. These data help build a network of customers,
which in turn attracts merchants to the platform. The resulting activities then generate
more data, which make the platform even more effective through a virtuous data–
network–activities loop (Boissay et al. 2021). While the scale has increased and the
techniques are more advanced, the goal remains the same as in Target’s earlier efforts:
attracting new customers and retaining them in a walled garden.
In recent years, digital platforms and other technology firms have been increasingly
moving towards offering payment services, which provides them with an additional
source of valuable data. The Covid-19 crisis has accelerated the shift from using cash,
which provides some anonymity to customers, to contactless and other electronic
payments, which do not. Payments data are often complementary to the information in
purchase histories, as they provide insight into an individual’s financial situation and
spending patterns on other platforms and venues. Platforms can design increasingly
sophisticated models that combine these data with demographic information, as well
as with data from other people with similar characteristics, to make inferences about
individuals’ preferences and willingness to pay for products.
While these advances may bring benefits to both consumers and the platforms they use,
18
there are several reasons for concern.
The most obvious concern is that a concentration of data creates digital monopolies,
which may stifle innovation and lead to higher prices as their power grows over time
(Garratt and Lee 2021). A platform with more precise information about individual
preferences and willingness to pay can price discriminate more effectively, offering
different products and prices to different individuals. A platform that provides payment
services can also discourage purchases on competing platforms, for example, by offering
additional discounts or perks for purchases on the platform, or by charging fees for
purchases made elsewhere. It is not difficult to imagine schemes that go further and
try to ‘poach’ consumers who are poised to make a purchase on a competing platform
(Fudenberg and Tirole 2000). For example, the payment system could offer a link to a
similar item, or the same item at a lower price, on its own platform. This is even more
problematic because, as customers, we have little control over who accesses the personal
data we have agreed to share (Varian 1997). Overall, the ability to monitor and collect
data on payment flows increases the advantage of an incumbent platform and limits the
possible points of entry for competing platforms.
A second concern is less obvious but no less important: the algorithms used by platforms
create externalities that lead consumers to underinvest in privacy. Consumers can limit
the information they provide to platforms by, for example, changing their method of
payment and taking steps to browse and shop anonymously where possible. In making
these decisions, consumers weigh the inconvenience of taking these steps against the
benefit of protecting their own privacy. However, as Garratt and van Oordt (2021) show,
information that you disclose also allows platforms to make inferences about other
people. Since you do not bear the cost of information you inadvertently reveal about
others, you will tend to undervalue protecting your privacy from a social point of view.
When everyone undervalues their own privacy, we all provide too much information to
the platforms we use, which exacerbates the data monopoly problem.
A third concern arises in situations where the private value of information is higher than
the social value, which leads platforms to over-invest in accumulating information about
their customers. As first demonstrated by Hirshleifer (1971), additional information may
have the perverse effect of undermining risk-sharing arrangements, an outcome known
as the Hirshleifer effect. For example, lending platforms may use payments data to infer
how the financial situation of individual borrowers is evolving, which would allow them
to terminate some loans more quickly. While terminating loans that are less likely to be
repaid makes good sense for the lending platform ex post, this action can undermine the
ex-ante risk-sharing benefits of the lending arrangement (Xiao 2021). The result can be
less lending and the exclusion of some deserving borrowers.
Taken together, these concerns suggest there could be a role for public policy in guiding
19
the amount of personal data accumulated in the course of economic activities, including
making payments. Well-crafted and targeted regulation may be able to solve some
inefficiencies. Given the time required to adopt and update regulations, however, directly
regulating the fast-changing digital economy is a challenge. An alternative approach is
to provide consumers with tools for managing their privacy. As Acquisiti et al. (2016)
emphasise, “[p]rivacy is not the opposite of sharing — rather it is control over sharing”.
The question is not about whether firms/platforms should be prevented from using data,
but rather how customers can more effectively control the use of their data by platforms.
ENTER CBDC
One way the public sector might help tilt the balance of power away from digital platforms
and back to customers is by making an electronic version of cash available to individuals
and businesses. A central bank digital currency (CBDC) could allow consumers to make
purchases in a way that does not reveal their identity to the seller, much like physical
currency but in a more modern and convenient format. Introducing a CBDC could
change the flow of information, and the resulting balance of power, in several ways.
First, for some types of purchases, paying with CBDC would allow a customer to remain
anonymous to the seller. A seller or platform that wants more information would then
need to compensate customers for providing that information (Garratt and Lee 2021). In
addition, using a CBDC would make it easier for consumers to keep their activity on one
platform invisible to other platforms. Finally, setting the design features of the CBDC,
such as the interest rate it pays, may allow policymakers to offset the externalities that
lead consumers to underinvest in privacy (Garratt and van Oordt 2021).
While a CBDC would provide consumers with the option to keep their information
private from retailers and financial institutions, at least some of that information would
instead accrue to the central bank. Some observers worry that this new information
could lead to an increase in government surveillance of individuals’ activities. However,
emerging technologies may be able to provide consumers with privacy for relatively
small transactions using CBDC, while enabling monitoring of larger payments in line
with anti-money-laundering regulations (ECB 2019). Moreover, it is worth noting that
the public sector has no clear motive to profit from consumers’ payments data in the way
that private digital platforms do. For these reasons, a CBDC could effectively function as
a convenient, electronic version of cash.
A FINANCIAL STABILITY BENEFIT
While a CBDC may be designed to provide privacy for many individual transactions,
the central bank would still gain real-time information about the overall patterns of use
20 and flows of the digital currency. Even relatively coarse information of this type could
allow a central bank to better monitor the state of the economy in real time. This new
information could lead to improved monetary policy decisions and quicker responses to
changing economic and financial conditions, especially in periods of financial stress.
In Keister and Monnet (2021), we focus on one type of information a central bank may
be able to infer from CBDC flows: the confidence depositors and other creditors have in
their banks. In periods of financial stress, banks and other financial intermediaries have
private information about both the quality of their assets and the willingness of their
depositors and short-term creditors to continue to provide funding. A bank that is in
a weak funding position will often have an incentive to hide this fact from regulators,
at least for a while, to avoid triggering supervisory action. This combination of banks’
private information and the incentive structure thus causes a delay in policymakers’
response to an incipient financial crisis (Keister and Mitkov 2021). Such a delay can
increase both the likelihood of a full-blown crisis and the severity of such an event.
In this situation, a CBDC could generate valuable information because it provides banks’
creditors with an additional liquid investment opportunity. Suppose, for example, that
a bank’s short-term creditors learn that the quality of its assets has declined. Currently,
if they wish to withdraw funding from the bank, they can shift their funds into another
bank or into other liquid assets (for example, government bonds). These withdrawals
from the bank might not be immediately observed by regulators and, even if they are,
might be difficult to distinguish from the regular inflows and outflows generated by a
bank’s client transactions.
Once a CBDC is introduced, in contrast, the central bank has a new source of information:
the flow of funds into this digital currency. We show that the central bank can use data
on inflows into the CBDC to more quickly infer the state of the financial system and,
perhaps, of individual institutions. This new information allows the central bank to
respond more quickly to emerging problems.
One commonly raised concern is that by providing investors with a convenient, safe
alternative asset, introducing a CBDC will make runs on the banking system more likely.
This effect is present in our paper, but we show it is offset by the quicker policy response
that a CBDC enables. When depositors and other short-term creditors know that the
central bank will respond more quickly to an incipient crisis, they have less incentive to
withdraw from their banks in the first place. In other words, the ability of the central bank
to infer information about depositor confidence has the effect of increasing depositor
confidence in equilibrium. In this way, the information a central bank would gain from
using a CBDC can increase the stability of the financial system.
CLOSING THOUGHTS
Central bank digital currency has the potential to fundamentally change the flow of
information generated by payments data. By providing consumers with a convenient
electronic version of cash, it can give them better control in sharing their data. By 21
creating a new source of information for the central bank, it can allow for quicker and
more targeted responses to emerging financial strains, and thus help stabilise the
financial system. How effectively a CBDC plays each of these roles will depend on a
number of design choices that have yet to be made (Auer and Boehme 2020). In making
these choices, central banks will consider other policy goals as well, such as improving
financial inclusion and the effectiveness of monetary policy. A fundamental challenge
ahead is identifying the design(s) that best allow a central bank to simultaneously meet
this range of goals.
REFERENCES
Acquisti, A, C Taylor, and L Wagman (2016), “The economics of privacy”, Journal of

Economic Literature 54(2): 442–92.
Auer, R, and R Böhme (2020), “The technology of retail central bank digital currency”,
BIS Quarterly Review, March.
Boissay, F, T Ehlers, L Gambacorta, and H S Shin (2021), “Big Techs in Finance: On the
New Nexus Between Data Privacy and Competition” in R Rau, R Wardrop and L Zingales
(eds), The Palgrave Handbook of Technological Finance, Palgrave.
Duhigg, C (2012), “How Companies Learn Your Secrets”, The New York Times Magazine,
16 February.
European Central Bank (2019), “Exploring anonymity in central bank digital currencies,”
In Focus No. 4, December.
Fudenberg, D and J Tirole (2000), “Customer poaching and brand switching”, RAND
Journal of Economics 31: 634–657.
Garratt, R J and M J Lee (2021), “Monetizing Privacy with Central Bank Digital
Currencies,” Federal Reserve Bank of New York Staff Report 958, revised June.
Garratt, R J and M R C Van Oordt (2021), “Privacy as a public good: a case for electronic
cash”, Journal of Political Economy 129: 2157–2180.
Keister, T and Y Mitkov (2021), “Allocating Losses: Bail-ins, Bailouts and Bank
Regulation” Discussion Paper No. 091, Collaborative Research Center Transregio 224,
Universities of Bonn and Mannheim, revised January.
Keister, T and C Monnet (2021), “Central Bank Digital Currency: Stability and
Information,” working paper.
Xiao, Y (2021), “Privacy, Payments and Financial Stability”, working paper, Rutgers
University, October.
ABOUT THE AUTHORS

22
Todd Keister is a Professor of Economics at Rutgers University. He has previously been
an Assistant Vice President at the Federal Reserve Bank of New York and a Professor
of Economics at ITAM in Mexico City. Todd’s research focuses on models of money,

banking and financial stability, as well as on central bank policies. He holds a Ph.D. in
Economics from Cornell University.
Cyril Monnet is a Professor of Economics at the University of Bern and at the Study Center
Gerzensee. He has previously been an Economic Advisor at the Federal Reserve Bank of
Philadelphia, and a Senior Economist at the European Central Bank. Cyril‘s research
focuses on monetary theory and the design of financial markets. He holds a Ph.D. in
Economics from the University of Minnesota.
CHAPTER 3
Central bank digital currencies and data 23
in the digital age: A triple imperative
CENTRAL BANK DIGITAL CURRENCIES AND DATA IN THE DIGITAL AGE | AUER, DOERR, FROST, GAMBACORTA AND SHIN
Raphael Auer, Sebastian Doerr, Jon Frost, Leonardo Gambacorta
and Hyun Song Shin
Bank for International Settlements
Data are central for the digital economy, and this is especially true in digital payments.
As a by-product of digital transactions, huge volumes of personal data are collected and
processed as an input into business activity every day. An integral feature of data is their
network effects, which present several new challenges for central banks and regulators.
First, network effects make the payment system prone to concentration, as they enable
the collection of vast troves of data that entrench the market power of firms that have
exclusive use of them. Second, data concentration has consequences above and beyond
its economic impact – it gives rise to concerns about data privacy and data governance
more broadly. And third, data-based digital payment systems must grapple with money
laundering, ransomware attacks and other illicit activities.
For central banks, the policy imperative reflects this centrality of data in payments.
Indeed, there is a ‘triple imperative’ for the central bank in its role at the foundation
of the monetary system: it must foster competition, while ensuring data privacy and
maintaining the integrity of the payment system. This triple imperative becomes even
more pressing as a wave of technological developments – such as cryptocurrencies,
stablecoins and the entry of large technology firms (BigTechs) – may bring far-reaching
changes to payment systems across the world. Such innovations could yield benefits
in terms of cost and convenience, but their ultimate impact on consumer welfare will
depend on the eventual market structure and governance arrangements that underpin
them. For example, network effects inherent in the business model of BigTechs can lead
to market power and entrenchment that exclude potential competitors (Frost et al. 2019).
The combination of transaction, search and social media data also raises concerns about
data abuse.
A special chapter of the Bank for International Settlements’ Annual Economic Report 2021
(BIS 2021a) argues that central bank digital currencies (CBDCs) present an opportunity
for the monetary system to overcome such shortcomings of private sector solutions and
support the public interest.
CBDCs can be designed for use either among financial intermediaries only (wholesale
CBDCs) or by the wider economy (retail CBDCs). As represented in Figure 1, retail
CBDCs are a direct claim on the central bank. As an advanced representation of money
for the digital economy, they could offer the unique advantages of central bank money in
24 digital form: settlement finality which guarantees that transfers are irrevocably settled;
liquidity provisions which ensure that settlements work smoothly; and clear rules and
requirements which maintain the system’s integrity. This can enable central banks to
continue to foster the public good nature of money. To do so, however, they must adhere
to three guiding principles in the design of CBDCs.
FIGURE 1 THE MONETARY SYSTEM WITH A RETAIL CBDC
Source: Auer and Böhme (2021).
First, CBDCs are best designed as part of a two-tier system where the central bank and
the private sector focus on what they do best – the central bank on operating the core of
the system by ensuring sound money, liquidity and overall security; the private sector on
innovating and using its creativity and ingenuity to serve customers better. CBDCs should
therefore be designed to delegate most operational tasks and consumer-facing activities
to commercial banks and non-bank payment service providers (Auer and Böhme 2021).
These tasks include account opening, account maintenance and enforcement of anti-
money laundering/combating the financing of terrorism (AML/CFT) rules. By preserving
the two-tier system, the central bank keeps its financial system footprint small, just as
cash does today. Central bank money can then retain its core attribute of neutrality.
Second, as laid out in the BIS Annual Economic Report 2021 (BIS 2021a), the most
promising design is an account-based CBDC, rooted in an efficient digital identity
scheme for users. In principle, retail CBDCs could come in two variants (Figure 2,
left-hand panel). One option makes for a cash-like design, allowing for anonymity in
payments (sometimes called ‘token-based access’). This option would give individual
users access to the CBDC based on a password-like digital signature, without requiring
personal identification. Transfers in CBDC would thus not be linked to specific
individuals – everybody with the right password could make payments out of a digital
wallet. The other approach is built on verifying users’ identity (‘account-based access’)
and would be rooted in a digital identity scheme. This second approach would facilitate
the monitoring of illicit activity in a payment system and would still provide options to
preserve privacy: personal transaction data could be shielded from commercial parties
and even from public authorities by appropriately designing the payment authentication 25
process. Yet, open questions remain as to who would issue and administer such a digital
identity, as trust in counterparties to safely handle personal data differs substantially
(Figure 2, right-hand panel). Striking the right balance is key to protecting users against
data hoarding and abuses of personal data while preserving the system’s integrity.
FIGURE 2 IDENTIFICATION IN CBDCS AND TRUST IN COUNTERPARTIES

CBDCs can be account-based or token-based US consumers’ trust in counterparties
to safeguard their data1
% of respondents
Big techs
Government
Traditional
FIs
0 20 40 60 80 100
Low trust Some trust High trust
Notes: AR = Argentina; AU = Australia; BE = Belgium; BR = Brazil; CA = Canada; CH = Switzerland; CL = Chile; CN = China;

CO = Colombia; DE = Germany; ES = Spain; FR = France; GB = United Kingdom; HK = Hong Kong SAR; IE = Ireland; IN = India;
IT = Italy; JP = Japan; KR = Korea; MX = Mexico; NL = Netherlands; PE = Peru; RU = Russia; SE = Sweden; SG = Singapore;
US = United States; ZA = South Africa. 1 Based on a representative sample of 1,361 US households, September 2020.
The question reads “How much do you trust the following entities to safely store your personal data (that is, your bank
transaction history, geolocation or social media data)? For each of them, please indicate your trust level on a scale from 1
(no trust at all in ability to safely store personal data) to 7 (complete trust)”. Category “low trust” corresponds to values 1
and 2, “some trust” to 3 and 4 and “high trust” to 5 or higher.
Sources: BIS (2021a); Armantier et al. (2021).
Third, CBDCs should address another challenge arising from the centrality of data in
the digital economy – that of preserving an innovation-friendly level playing field. The
same technology that encourages a virtuous circle of greater access, lower costs and
better services could equally induce a vicious circle of data silos, market power and anti-
competitive practices. Open payment platforms – for example, facilitated by application
programming interfaces (APIs) with open access standards – can enable new entrants to
challenge incumbents, fostering competition and private sector innovation. This would
benefit consumers through greater user participation (financial inclusion), privacy, lower
costs of payments and better services.
To be sure, these characteristics are not unique to CBDCs. They also feature in the latest
generation of retail fast payment systems – systems that provide near real-time settlement
for users. But CBDCs have the additional feature of extending the unique attributes of
central bank money to the public. CBDCs allow direct settlement on the central bank’s
balance sheet, without the need for intermediary credit. And they maintain a tangible
link with the central bank in the same way that cash does – a salient marker of the trust
in sound money itself – even as the use of cash dwindles owing to the increasing adoption
26 of digital payment technologies.
The judicious simplification of the monetary architecture afforded by CBDCs holds

the promise of improving cross-border payments, where payment services are often
characterised by a lack of competition and thus at times slow, expensive and cumbersome
to use. An account-based CBDC may allow for greater control by central banks in both
the issuing and receiving jurisdiction. This could help mitigate the risks of ‘digital
dollarisation’, or substitution by a foreign CBDC in domestic transactions and financial
contracts. While improvements might also be made by adjusting current systems, starting
with a clean slate, unburdened by legacy systems, could yield considerable benefits. So-
called multi-CBDC (mCBDC) arrangements, which join up CBDCs across borders, are a
case in point (Auer et al. 2021). The greatest potential for improvement is offered by an
mCBDC system that features a jointly operated payment system hosting multiple CBDCs.
Central banks around the world have already embarked on developing mCBDC
arrangements in close collaboration to foster more efficient cross-border payments. A
prime example is the mCBDC Bridge project of the BIS Innovation Hub and its partner
central banks in China, Hong Kong SAR, Thailand and the United Arab Emirates. This
project explores how CBDCs could help to reduce costs, increase transparency and tackle
regulatory complexities in payments (BIS 2021b).
Cross-border payments, especially in correspondent banking, are highly costly due to

cross-country differences in legislation, AML/CFT rules, and settlement rules. In this
context, CBDCs are seen as an opportunity to simplify the typically long chains in
correspondent banking and increase the efficiency of payments to facilitate international
trade (Figure 3). This could offer particular benefits to small open economies, which are
both more reliant on international remittances and which have recently been hit by a
large decline in supply of traditional correspondent banking relationships (EBRD 2020).
The ultimate benefits of CBDCs – and their specific design – will depend on countries’
current payment systems, economic development, legal frameworks, user preferences
and the policy objectives societies want to achieve (Auer et al. 2020). A recent survey
shows that payments safety and financial stability considerations are more important in
advanced economies, while central banks in emerging market and developing economies
put emphasis on financial inclusion and efficiency (Boar and Wehrli 2021).
FIGURE 3 CBDCS COULD SIMPLIFY THE MONETARY ARCHITECTURE AND
SUBSTANTIALLY STREAMLINE THE CROSS-BORDER PAYMENT CHAIN
27
Source: Elaboration based on Auer et al. (2021).
CBDC is an idea whose time has come. They present an opportunity to design a
technologically advanced representation of central bank money, one which preserves the
core features of finality, liquidity and integrity that only the central bank can provide.
When properly designed, CBDCs could form the backbone of a highly efficient new
digital payment system by enabling broad access and providing strong data governance
and privacy standards.
REFERENCES
Armantier, O, S Doerr, J Frost, A Fuster and K Shue (2021), “Whom do consumers trust
with their data? US survey evidence”, BIS Bulletin No. 42.
Auer R and R Böhme (2021), “Central bank digital currency: the quest for minimally
invasive technology”, BIS Working Paper No. 948.
Auer R, G Cornelli and J Frost (2020), “Rise of the central bank digital currencies:
drivers, approaches and technologies”, BIS Working Paper No. 880.
Auer, R, P Haene and H Holden (2021), “Multi-CBDC arrangements and the future of
cross-border payments”, BIS Paper No. 115.
Bank for International Settlements (2021a), “CBDCs: an opportunity for the monetary
system”, BIS Annual Economic Report, Chapter III.
Bank for International Settlements (2021b), “Multiple CBDC (mCBDC) Bridge”.
Boar C and A Wehrli (2021), “Ready, steady, go? – Results of the third BIS survey on
central bank digital currency”, BIS Paper No. 114.
EBRD (2020), The Transition Report 2020-21.
Frost J, L Gambacorta, Y Huang, H S Shin, and P Zbinden (2019), “BigTech and the
changing structure of financial intermediation”, Economic Policy 34(100): 761-799.
28
ABOUT THE AUTHORS
Raphael A. Auer is Principal Economist in the Innovation and Digital Economy unit of the
Bank for International Settlements (BIS). He is a CEPR Research Fellow and president of
the Central Bank Research Association, and holds a PhD in economics from MIT. Prior
to joining the BIS, he was Deputy Head of International Trade and Capital Flows and
Economic Advisor at the Swiss National Bank; as well as an associated research professor
at the Konjunkturforschungsstelle of ETH. During 2009-10, he was a Globalization and
Governance Fellow at Princeton University. His current policy work focuses on issues
related to cryptocurrencies, stablecoins and central bank digital currency. His research
interests also cover the interaction of international trade and macroeconomics, examining
in particular how exchange rates pass through into domestic inflation and how the global
production network gives rise to globally synchronized inflation dynamics.
Sebastian Doerr is an economist at the Bank for International Settlements in the

Monetary and Economic Department. He obtained his PhD in economics from
University of Zurich, where he was an affiliated researcher at the UBS International
Center of Economics in Society. His research focuses on banking, macroeconomics, and
economic history.
Jon Frost is a Senior Economist in the Innovation and the Digital Economy unit of the Bank
for International Settlements (BIS). In this role, he conducts policy-oriented research
on financial innovation and digitalisation. He has written on FinTech credit, BigTech
in finance, and technology and inequality. Previously, Jon served as a Member of the
Secretariat at the Financial Stability Board (FSB), supporting the FSB’s work on financial
innovation for the G20. This included work on applications of artificial intelligence and
machine learning, decentralised financial technologies, RegTech / SupTech, and crypto-
assets. Jon is seconded to the BIS from the Financial Stability Division in the Dutch
central bank (DNB). Prior to DNB, he worked at various roles in the private sector in
Germany, and taught at VU University in Amsterdam. Jon is a U.S. national. He holds
an MA degree in economics from the University of Munich in Germany, and a PhD in
economics from the University of Groningen in the Netherlands. He is a research affiliate
of the Cambridge Centre for Alternative Finance at the University of Cambridge.
Leonardo Gambacorta is the Head of the Innovation and the Digital Economy unit at the
BIS. Before taking up his current position, Leonardo was Research Adviser (2014-2018)
and Head of Monetary Policy (2010-12) in the Monetary and Economic Department. He
was also Head of the Money and Credit Unit (2007–09) and Head of the Banking Sector
Unit (2004–06) of the Research Department of the Bank of Italy. He was a visiting scholar
at the National Bureau of Economic Research (2002–03). He holds an MSc in Economics
from the University of Warwick and a PhD in Economics from the University of Pavia.
His main interests include the monetary transmission mechanisms, the effectiveness of
macroprudential policies on systemic risk, and the effects of technological innovation
on financial intermediation. He is a research fellow of the Centre for Economic Policy 29
Research.
Hyun Song Shin took up the position of Economic Adviser and Head of Research at the
BIS on 1 May 2014. Before joining the BIS, Mr Shin was the Hughes-Rogers Professor of
Economics at Princeton University.
CHAPTER 4
The right and duty of central banks to 31
issue retail digital currency
THE RIGHT AND DUTY OF CENTRAL BANKS TO ISSUE RETAIL DIGITAL CURRENCY | ZELLWEGER-GUTKNECHT
Corinne Zellweger-Gutknecht
University of Basel
MONETARY MANDATES AND MONEY SUPPLY TO THE PUBLIC (THEN AND

NOW)
The state has at all times asserted its sovereign claim to the issuance of money – originally,
because it proved to be an excellent fiscal resource. In the case of commodity money, this
took the form of seignorage obtained from overvaluation. Later, it was, among others,
the issuance of fiat money and, in particular, the inflation associated with its over-
issuance that relieved the burden on the indebted state budget and thus took the place of
seignorage profits (Mundell 2002). The monopoly for cash issuance and the legal tender
status, which have their roots in this period, ensured that the state was not obliged to
share the seignorage and that its money was accepted at face value despite devaluation,
respectively.
Adverse experiences with inflation or even hyperinflation, however, eventually led to a

shift in state funding practices: the more an efficient tax system developed, the less the
state had to resort to using the money press for financing. Simultaneously, a growing
consensus that a stable monetary system is essential for a prospering economy, its value
creation, and ultimately the future tax substrate emerged. At this point, it became
necessary to place monetary mandates in the hands of independent central banks.
Accordingly, the reason for issuing state money shifted away from the sovereign’s primary
interest to the issuance of money as a basic supply of a public good within a publicly
sponsored infrastructure (Zellweger-Gutknecht et al. 2021). This was achieved, on the
one hand, by directly supplying the public with tangible cash and, on the other hand, by
issuing state money, in particular for the purpose of settling non-cash private payment
transactions (today in the form of central bank sight deposits, originally also high-value
banknotes). This liquidity supply to the general public and selected actors in the financial
market is fulfilled today within the framework of payment policy.1
1 More recently, the payment policy mandate (and the lender of last resort role originally enshrined therein) has evolved into
a separate stability mandate in various monetary systems. See, for example, Article 5(2)(e) of the Swiss National Bank Act
(NBA) of October 3, 2003 (951.11): “It [i.e. the SNB] shall contribute to the stability of the financial system” (https://www.
fedlex.admin.ch/eli/cc/2004/221/en).
However, the issuance of money alone is insufficient. Rather, the supply of money at large
(public and private) must operate under conditions that allow the economy to exploit its
production potential optimally. Price stability is widely recognised as an indicator that
this goal has been achieved. Hence, in addition to the issuance of money, another service
32 of public interest was added: the guarantee of stable prices through monetary policy (e.g.
European Commission 2003: para. 20).
THE MULTI-LAYERED AND ESSENTIAL ROLE OF CASH IN MODERN

MONETARY SYSTEMS
In monetary systems structured as described above, cash plays an essential, multi-

layered role. First, it is a kind of ideal money: efficient2 and at the same time safe to
handle; inclusive (since even children, tourists, and unbanked people can use it); privacy-
preserving (for obvious reasons); and above all, practically risk-free (the money’s real
value corresponds largely to its nominal value).3 Several reasons for this may be cited,
but it is largely attributable to the fact that the issuer – the central bank – cannot become
insolvent. In addition, the central bank pursues a monetary policy that serves neither the
interests of any shareholders nor the interests of the treasury.
Second, and precisely because it is ideal money, cash also serves as a quality anchor for
privately issued money, particularly commercial bank deposits. From a legal perspective,
such deposits are claims denominated in state money and payable on demand. The
resulting convertibility into state money means that they all circulate at par, at an
exchange rate of 1:1, despite having been issued by different banks with balance sheets
that differ significantly in quality (Fox 2016). Of course, prudential regulation and
financial safety nets – such as deposit insurance, lender of last resort, and sometimes
even bailouts – also help to keep the value of bank deposits uniform among themselves.
However, without convertibility into state money, this ‘uniformity of money’ simply could
not be achieved to the same extent. Without convertibility into cash, bank deposits would
themselves ultimately be fiat money. In this way, however, cash disciplines the banks,
for if they conduct business with excessive risk, they will have to reckon with increased
cash withdrawals. The insolvency of Lehman Brothers 2008 is a telling example of
this: because customers no longer knew which bank was still safe, they withdrew vast
amounts of cash. The Deutsche Bundesbank alone, Germany’s central bank, had to issue
as many €500 notes in a single month as it would otherwise have done in an entire year
(Weidmann 2016).
Third, cash also serves the stability of the financial system owing to its above-mentioned
disciplining function. Without this stability or uniformity of money, the effective
transmission of monetary policy impulses would be impossible. Thus, the central bank’s
2 At least the handling of cash, or at any rate of banknotes, was efficient from the point of view of the time when the issuing
of cash issuance was delegated to central banks and appropriately enshrined in central bank and other monetary laws.
3 See details in Zellweger-Gutknecht et al. (2021: 11).
issuance of cash is ultimately an indispensable precondition for monetary policy.4
However, it is not itself an instrument of monetary policy and, as far as can be seen, was
not envisaged as such by any legislator in any modern monetary system.
However, all three essential functions are under acute threat, as the use of cash for
33
payment purposes is declining at an accelerating pace for various reasons (Zellweger-
Gutknecht 2021: 1). By virtue of their mandates, central banks are therefore already not
only entitled but also obliged de lege lata (under current law) to prepare and put in place
the issuance of a digital equivalent and complement to cash – a retail central bank digital
currency (rCBDC) – as soon as possible. By contrast, changes in the law are unavoidable
wherever digital cash is to be equipped with properties and functionalities that tangible
cash lacks.
The section that follows examines two of these aspects in greater detail. First, it discusses
why it is irrelevant whether money is issued in the form of digital tokens or account
balances and demonstrates that it matters only what digital cash is used for and how
access is organised institutionally. Second, in the latter context, it explains why cash in
particular must not be used as a monetary policy instrument under current law and that
the central bank should not make cash available directly but rather should operate via
financial intermediaries that it appoints as part of a hybrid architecture.
ELIGIBLE FORMS OF DIGITAL CASH AND BOUNDARIES FOR ITS USE AND
ACCESS
Account balances and tokens

Central banks today issue digital money by providing account balances for selected
actors in the financial system and accepting eligible assets as collateral. For this purpose,
the central banks are regularly authorised in central bank laws or other monetary laws to
open accounts.5 However, it must be emphasised that these provisions speak of ‘accounts’
by pure chance simply because when the relevant laws were written, the account, or
rather the balance in an accounting ledger, was the only technical standard available for
rendering a sum of currency units in digital form perceptible to the human senses.
4 See, for example, the opinion of the advocate general Pitruzzella delivered on 29 September 2020 in the joined cases
C‑422/19 and C‑423/19 (ECLI:EU:C:2020:756), para 65 (italics added): “The competence to issue and authorise the issue
of euro banknotes … underpin the unique character of the euro currency and are also a precondition for the conduct of a
single monetary policy.”
5 See, for example, Art. 9 NBA (n 3) in conjunction with Art. 10 of the Swiss Federal Act on Currency and Payment Instruments
(CPMI) of 22 December 1999 (941.10). See also Art. 17 of the Statute of the European System of Central Banks (ESCB),
Protocol 4 to the Treaty on European Union [2016] OJ C202/203. The article reads as follows: “In order to conduct their
operations, the ECB and the national central banks may open accounts for credit institutions, public entities and other
market participants and accept assets … as collateral.”
This situation looks set to change with the availability of distributed ledger technology.
Of course, several protocols, such as Ethereum, Quorum, and Ripple,6 are still based
on accounts and balances, whereby a balance represents money. The balance is variable
and changes with every transaction – effected by the traditional transfer mode of debits
34 and credits (Zellweger-Gutknecht 2019). However, other protocols, such as Bitcoin and
Corda,7 are based on a so-called ‘token’ system.
Unlike account balances, tokens represent an arbitrarily designated amount of money.

Once established, however, the token’s value never changes – just like a banknote or coin.
However, that is where the similarities with tangible cash end. Digital tokens themselves
are not transferred, only the value they represent – again, through debit and credit. Tokens
that have not yet been spent are recorded as ‘unspent’ (unspent transaction output, or
UTXO, in the Bitcoin protocol) or ‘latest’ (Corda) or similar. A token can only be issued
in its entirety at any time (comparable to a $10 note: a corner is not simply cut off if two
dollars are to be tendered). Thus, if one owes, for example, half a bitcoin and wants to pay
it with a two-and-a-half bitcoin, the system will mark the whole token as ‘spent’ (under
the Corda protocol it would be flagged as ‘old’). In return, the system records a new token
of half a bitcoin on the payee’s address and two bitcoins on the payor’s address – both,
again, marked ‘unspent’ (fees not considered).
In summary, account balances are money, but tokens are no less so. Both are transferred
by debit and credit, since tokens are also invalidated or rather fully debited and newly
created or credited with each transaction. The authors of current monetary laws simply
had not encountered digital tokens when they drafted the legislation. Therefore, if
a provision mentions ‘accounts’, this is not legally a qualified silence in the sense that
all other digital forms of representation would be inadmissible. A policy paper recently
published by IMF authors reached a different conclusion (Bossu et al. 2020). However, it
seems to be based on a rather formalistic and literal interpretation of the relevant laws. A
conclusive assessment by academic papers would only be possible, however, if the authors
were to publish the raw data used in their analysis, which would be extremely important
in view of the issue’s topicality and the weight attached to IMF assessments in general.
Impermissible use as a monetary policy instrument

Today’s central bank mandates clearly limit the purposes for which they may use the
money they issue and, related to this, with whom they may maintain direct relations. To
illustrate this, the reader is once again directed to the provisions that authorise central
banks to open accounts.8 It might be tempting to use these provisions as a legal basis for
issuing digital cash to the public – at least if such rCBDC were designed to be account-
6 For the distinction to account-based models such as Quorum (used by JPM and project Ubin of MAS) or Ethereum and
Ripple see, for example, the overview in Longchamp et al. (2020). However, it is rightly argued that the distinction between
token and account (balances) does not necessarily lead to convincing solutions (Lee et al. 2020 and references therein).
7 For example, the Swiss National Bank used the Corda protocol to implement a proof of concept in the area of wholesale
payments (BIS Innovation Hub, SIX Group AG and Swiss National Bank 2020).
8 See footnote 5.
based and the provisions were broadly interpreted in terms of who might have access.
As demonstrated above, the supposed restriction on accounts is most likely a fallacy.
However, these provisions’ personal scope of application cannot be extended without
amending the law for systematic and teleological reasons.
35
Provisions on the maintenance of central bank accounts are regularly located in chapters
that deal with monetary policy operations, whereas the issuance of cash to the public
is regulated elsewhere. For example, Art. 17 of the Statute of the European System of
Central Banks (ESCB) regulates the maintenance of accounts for “market participants”
in Chapter IV on the “Monetary Functions and Operations of the ESCB’. By contrast, Art.
16 on the issuance of cash is located in the preceding Chapter III on the “Organisation
of the ESCB”, which clarifies the competences.9 This is consistent with the systematic
location of the corresponding provisions in the Treaty on the Functioning of the EU
(TFEU): therein, Art. 128 TFEU regulates the issue of cash separately and independently
from Art. 127 on monetary policy tasks.
This systematic positioning is significant and binding. It was put in place for good
reason: aside from expectation management via forward guidance, the central bank
does not implement its monetary policy in direct contact with the public. In particular,
cash issuance is not a tool of monetary policy transactions and was not intended by the
legislator to serve as such. This would infringe the price stability mandate (Zellweger-
Gutknecht 2021: 33), the well-established two-tier monetary system, and the principle
of open market economy, in which the financial intermediaries in competition with one
another primarily determine the conditions of the general supply of money.
Consequently, an architecture that avoids direct interaction between the public and the
central bank and, in particular, does not create a contractual relationship between them
but continues to regulate their relationship solely by public law should be chosen. The
issuance and transfer of digital cash will be handled by financial intermediaries on behalf
of and for the account of the central bank. As a result, both tokens and account balances
will continue to be recorded on the liabilities side of the central bank.10 This architecture
would safeguard the essential risk-free nature of cash and prevent the state from easily
obtaining insight into the public’s financial transactions, while simultaneously preserving
the banks’ information about their customers’ payment flows, which remain essential for
risk-adequate lending (Goodfriend 1990: 11–38, 14, 20, 22, Geva 2019: 247–277, 248, 253
et seq.).11
9 This is precisely what Art. 16 concerns: it distributes the competencies between the Governing Council, the ECB at large,
the national central banks (NCBs) and the Member states (with the latter implicitly taken into account in para. 2).
10 See, for example, the legal nature of sight deposits with the Swiss National Bank in the sense of Arts. 2(c) and 3(3) CPMI
(fn 11): although they are recorded on the technical platform of the Swiss Interbank Clearing (SIC) System, which is a joint
venture of the Swiss Banks and acts as an agent of the SNB, the aforementioned sight deposits are recorded on the liability
side of the SNB’s balance sheet.
11 If banks are stripped of transaction data, they are no longer in a position to provide information-intensive non-traded loans
in a risk-adequate manner.
CONCLUSION
The elementary functions of cash – both for the public and for monetary policy – must
be maintained in a world in which the use of cash is increasingly declining. Therefore,
36 wherever the central bank already has a mandate to issue cash, it also has a right – and
a corresponding duty – to reinforce tangible cash by issuing a digital equivalent and
complement. This mandate does not have to be given by amending the law first. By
contrast, according to current law, cash is not an instrument of monetary policy. If it

were to be used for this purpose in the future (for example, through positive or negative
interest rates), then a change in the law based on a democratic decision by fully informed
parliaments would indeed be required. ‘Fully informed’ in this context means that it must
be made transparent that a change in the law is necessary not because of the introduction
of new forms of representation of monetary value, such as tokens, but rather because
the use of cash as an instrument of monetary policy is a novelty and, as explained above,
would violate the price stability mandate and the principle of an open market economy.
However, careful consideration should be given to whether today’s two-tiered system
should in fact be relinquished. I strongly advise against it.
REFERENCES
BIS Innovation Hub, SIX Group AG, and Swiss National Bank (2020), Project Helvetia:
Settling Tokenised Assets in Central Bank Money, December.
Bossu, W, M Itatani, C Margulis, A D P Rossi, H Weenink and A Yoshinaga (2020),

“Legal Aspects of Central Bank Digital Currency: Central Bank and Monetary Law
Considerations”, IMF Working Paper No. 2020/254.
European Commission (2003), “Green paper on services of general interest”, 21 May.
Fox, D (2016), “Cyber-Currencies in Private Law”, in S E Griffiths, M Henaghan, and M

B Rodriguez Ferrere (eds), The Search for Certainty–Essays in Honour of John Smillie,
Thompson Reuters.
Geva, B (2019), “Cryptocurrencies and the Evolution of Banking, Money and Payments”,
in C Brummer (ed.), Cryptoassets Legal, Regulatory and Monetary Perspectives, Oxford
University Press.
S Goodfriend, M S (1990), “Money, Credit, Banking, and Payment System Policy”, in D

B Humphrey (ed.), The US Payment System: Efficiency, Risk and the Role of the Federal
Reserve, Kluwer Academic.
Lee, A, B Malone and P Wong (2020), “Tokens and Accounts in the Context of Digital
Currencies”, FEDS Notes, 23 December.
Longchamp, Y, S Deshpande, and U Mehra (2020), “A Beginner’s Guide to Blockchain

Accounting Standards”, 25 June.
Mundell, R A (2002), “Monetary Unions and the Problem of Sovereignty”, The ANNALS
of the American Academy of Political and Social Science 123.
Weidmann, J (2016), “Eröffnungsrede”, in 3 Bargeldsymposium der Deutschen

Bundesbank, Frankfurt Juli 2016, Deutsche Bundesbank.
37
Zellweger-Gutknecht, C (2019), “Developing the Right Regulatory Regime for
Cryptocurrencies and Other Value Data”, D Fox and S Green (eds), Cryptocurrencies in
Public and Private Law, Oxford University Press.
Zellweger-Gutknecht, C, B Geva, and S Neva Grünewald (2021), “Digital Euro, Monetary

Objects, and Price Stability: A Legal Analysis”, Journal of Financial Regulation 1.
ABOUT THE AUTHOR
Corinne Zellweger-Gutknecht is a Professor of Private Law, Corporate and Commercial

Law at the University of Basel and a Professor of Private Law, Financial Market and
Monetary Law at the Kalaidos University of Applied Sciences. Besides, she teaches
monetary law at the University of Zurich Faculty of Law. Corinne researches in the fields of
monetary, currency and central banking law, and interdisciplinary issues between private
and financial market law. She is particularly interested in the influence of digitization
on public as well as private money, payment systems and the financial market, and the
registration of crypto currencies in private, insolvency and currency law. Corinne serves
an adviser to authorities such as the Confederation, BIS, SNB and FINMA. Her ongoing
research concerns predominantly the area of monetary law, cybercurrencies and digital
legal tender. With Benjamin Geva and Seraina Neva Grünewald, she led a study on the
admissibility of euro banknotes as part of the ECB’s Legal Research Programme 2020,
which resulted in three publications (“The e-Banknote as a ’Banknote’: A Monetary Law
Interpreted” (Oxford Journal of Legal Studies), “Digital Euro and ECB powers” (Common
Market Law Review) and “Digital Euro, Monetary Objects, and Price Stability: A Legal
Analysis” (Journal of Financial Regulation)).
CHAPTER 5
‘Reserves for All:’ Political rather than 39
macroeconomic risks
‘RESERVES FOR ALL:’ POLITICAL RATHER THAN MACROECONOMIC RISKS | NIEPELT

Dirk Niepelt
Study Center Gerzensee, University of Bern, and CEPR
When it comes to the perils of retail central bank digital currency (CBDC), policymakers
tend to stress macroeconomic threats. True, so the argument goes, CBDC holds various
promises, but in the worst case it could disrupt banking, undermine financial stability
and reduce investment.1 After all, the introduction of CBDC or ‘Reserves for All’ would
reduce household or corporate deposits, and these deposits fund banks.
This argument is incomplete, however. It neglects the fact that CBDC issuance would also
increase central bank funding – funding that must be invested. Whether the introduction
of CBDC would be disruptive therefore depends on central bank choices, in particular on
the choice of how the CBDC funds are invested.2
MACROECONOMIC NEUTRALITY
In principle, a central bank can completely neutralise the effects of CBDC on bank
balance sheets and macroeconomic outcomes when certain conditions are met.3 The
main element of the neutral central bank policy is a refinancing operation in which
the central bank funds banks at terms that keep both their financing costs and their
incentives unchanged. Effectively, under the neutral policy the central bank re-channels
CBDC funds back to banks, keeping their choice sets unchanged. Banks continue to
engage with the real sector, in particular extending credit; only the composition of their
liabilities changes as household and firm deposits are substituted by central bank loans
(Brunnermeier and Niepelt 2019).
1 Among the potential benefits, CBDC might enhance competition in the banking sector; foster financial inclusion and
monetary sovereignty; help protect consumers from data-hungry private payment providers; and reduce the need for
deposit insurance as well as the problems resulting from moral hazard and bank regulation. Tobin (1985, 1987) emphasised
the latter point, arguing in favour of ‘deposited currency’, i.e. widely accessible government issued money “with the
convenience of deposits and the safety of currency” (p. 172). Recently, the literature on CBDC has burgeoned. For an
overview see Niepelt (2018) and Auer et al. (2021) and the sources cited therein. On the potential consequences of CBDC
for monetary and national sovereignty see, for example, Raghuveera (2020); and for taxes and distortions, Niepelt (2020).
2 For a related view see, for example, Auer et al. (2021: 19): “… the argument that a CBDC increases financial fragility is
actually difficult to justify when considering it in a general equilibrium model, with all facets of CBDCs.”
3 These conditions concern the properties of CBDC and bank deposits as means of payment: The rate at which users can
substitute one means of payment against the other must be constant (but not one-to-one; Brunnermeier and Niepelt 2019)
and the total resource requirement to operate the means of payment must not change because of the substitution (Niepelt
2020).
As a stark example, consider a scenario in which all depositors close their bank accounts
and transfer the funds to newly established CBDC accounts. By accepting the incoming
payments, the central bank acquires claims vis-à-vis the banking sector in exchange and
thereby refinances it.4 What are key for the macroeconomic consequences in this scenario
40 are the terms and conditions of the central bank’s new claims, that is, the interest rates
on central bank loans to banks and their elasticities. By appropriately choosing these
terms, the central bank can ensure that banks face the same choice sets as prior to the
CBDC introduction and as a consequence, it can insulate bank credit, investment and
growth from the change in the means of payment that households and firms use.
What interest rate on central bank loans would this neutral policy entail? Estimates
for the US suggest that in the last twenty years the rate would have fluctuated widely,
depending on market conditions including interest rates on deposits and reserves
(Niepelt 2020). Importantly, the rate would have differed from the market interest rate
for short-term, risk-free funding without a liquidity premium. For example, just before
the financial crisis, the market rate for such funding without a liquidity premium was
substantially higher than the hypothetical equivalent loan rate under the neutral policy,
which was low because interest rates on deposits were low.
BANK ‘FUNDING COST REDUCTION AT RISK’
So, the introduction of CBDC does not necessarily undermine macroeconomic stability
because central banks can largely neutralise the consequences. But of course, central
banks might choose to pursue different strategies and to opt for policies that differ from
the neutral one, implementing different equilibria than in the absence of CBDC. Unless
we know with certainty how central banks would act (and we don’t), the macroeconomic
effects of CBDC thus are far from certain. But the risks do not arise from the laws of
macroeconomics; rather, central bank policies and politics take centre stage.
A key question therefore concerns the incentives and constraints of central banks. Would
monetary authorities be in a position to pursue the neutral policy? In particular, would
they be willing and able to refinance banks at rates that are as low as to replicate cheap
deposit rates? In a world with politically influential bank managers or shareholders, this
might be conceivable.5 In a world with influential taxpayers, in contrast, it might not.
Accordingly, the effect of a CBDC on bank funding costs, credit and investment might
vary across countries with similar economic fundamentals just because their central
banks differ in terms of governance structure or the political exposure of their exponents.
4 If the central bank rejected the incoming payments nothing would happen. If the banks held reserves to start with the new
claims would be netted. Banks might also choose to adjust their reserve holdings at the central bank. This does not affect
the argument (Niepelt 2020).
5 For a related point see, for example, Cukierman (2019: 7).
The introduction of CBDC in combination with refinancing operations would increase
transparency, thereby strengthening the relative political influence of less well-organised
lobbies and fostering public scrutiny of central bank policies. The question of whether
seignorage revenue benefits the actual ‘creators’ of liquidity would be raised more often,
and implicit subsidies for banks would become more difficult to sustain unless they 41
commanded public support. Sovereign money initiatives along the lines of the Swiss
Vollgeld proposal to deprive banks of seignorage could be a sign of things to come.

The amounts at stake are large, on the order of half a percent of GDP or more. Figure 1,
which is taken from Niepelt (2020), illustrates two estimates of the ‘funding cost
reduction at risk’ for US banks if all deposits were converted into CBDC and the central
bank refinanced banks. The series run from 1999 until today and are expressed as shares
of GDP. They are positive when refinancing through short-term, risk-free funds which
do not command a liquidity premium would have been more expensive than at the
equivalent loan rate under the neutral policy. This was the case, for example, before the
financial crisis because market rates for funds without a liquidity premium substantially
exceeded deposit rates at the time. During periods of interest rate compression (in the
early 2010s) when market rates for funds without a liquidity premium and deposit rates
were very similar the time series are negative because operating a deposit business
generated additional costs which the equivalent loan rate accounts for.6
FIGURE 1 TWO ESTIMATES OF THE ‘FUNDING COST REDUCTION AT RISK’ FOR US BANKS
DUE TO CBDC
funding cost reduction, share of GDP

0.010
0.008
0.006
0.004
0.002
0.000
99
00
01
02
03
04
05
06
07
08
09
10
11
12
13
14
15
16
17
18
19
20
21
1/
1/
1/
1/
1/
1/
1/
1/
1/
1/
1/
1/
1/
1/
1/
1/
1/
1/
1/
1/
1/
1/
1/
1/
1/
1/
1/
1/
1/
1/
1/
1/
1/
1/
1/
1/
1/
1/
1/
1/
1/
1/
1/
1/
1/
1/
-0.002
-0.004
-0.006
-0.008
fcr [a] fcr [b]
6 For details, see Niepelt (2020), which also includes alternative estimates according to which the ‘funding cost reduction at
risk’ was positive throughout.
OPEN MARKET OPERATIONS AND LENDER OF LAST RESORT FOR ALL
Figure 1 shows that after the introduction of CBDC banks would have time-varying, and
at times very strong, incentives to engage with central bank decision makers to influence
42 them, and so would taxpayers. Banking would become even more politicised. But the
political risks do not end here. New refinancing operations for banks along the lines
described above, in combination with broadened access for households and firms to
central bank money, could lead the latter to ask for more. Interest groups might raise the
question of why the central bank should restrict open market operations to a select set
of counterparties and a select set of assets (Cecchetti and Schoenholtz 2018). Refusal by
central banks to accommodate demands for ‘fairness’ or ‘policies in the public interest’
could trigger complaints about double standards for Main Street versus Wall Street,
while acceptance would open the door to new credit risks on the central bank balance
sheet.7
What’s more, insolvent companies could demand ‘lender-of-last-resort’ support

based on the argument that they suffer from liquidity rather than solvency problems,
are systemically important, and should not be treated differently than ‘systemically
important’ banks (Tucker 2017: 9). Under intense political pressure to save jobs and
keep businesses alive, central banks would have to assess the negative externalities from
insolvency, not only in the financial sector but across industries; in times of widespread
distress, they might choose to submit to the demands. The macroeconomic consequences
ex ante and ex post would be far reaching.
FISCAL DEMANDS, CASH AND THE EFFECTIVE LOWER BOUND
Independently of whether central banks would just refinance banks or succumb to

pressure to do more, their balance sheets would grow and with them the power to
generate seignorage revenues. The voices demanding high and stable central bank profit
disbursements could become louder, as the example of Switzerland shows. And the
interests of taxpayers, creditors and central bank debtors concerned with seignorage, low
inflation and cheap financing, respectively, could collide.
Moreover, ‘Reserves for All’ might enlarge the power of monetary authorities in new
ways. By reducing the circulation of notes and coins (as a consequence of both direct
substitution and of network effects; Agur et al. 2019), the introduction of CBDC could
undermine the strong public support that cash still enjoys in many societies. As a
7 For a related discussion, see Fernández-Villaverde et al. (2021).

consequence, privacy in payments would suffer and the effective lower bound on policy
rates which constrains monetary policymakers today would decline if not disappear,
opening the way for more muscular and conflictual monetary policies.8
43
CONCLUSION
From a macroeconomic perspective, central banks can largely neutralise the consequences

of CBDC. What is highly uncertain, however, is whether they would choose to do so – the
political risks of ‘Reserves for All’ are first-order. The decision for or against CBDC thus
should not only reflect the assessment of economic trade-offs, but also whether societies
are confident in their ability to efficiently manage conflicts of interest. If not, and if
they fear that the introduction of CBDC could further politicise banking and central
banking, then the introduction of CBDC might constitute a risky regime change. It will
be interesting to see how different judge this risk.
REFERENCES
Agur, I, A Ari and G Dell’Ariccia (2019), “Designing central bank digital currencies”,
mimeo, International Monetary Fund, October.
Auer, R, J Frost, L Gambacorta, C Monnet, T Rice and H S Shin (2021), “Central

bank digital currencies: Motives, economic implications and the research frontier”,
forthcoming in Annual Economic Review.
Bordo, M and A Levin (2017), “Central bank digital currency and the future of monetary
policy”, NBER Working Paper 23711.
Brunnermeier, M and D Niepelt (2019), “On the equivalence of private and public money”,
Journal of Monetary Economics 106: 27–41.
Cecchetti, S and K Schoenholtz (2018), “Universal central bank digital currency?”, Money
& Banking, April.
Cukierman, A (2019), “Welfare and political economy aspects of a Central Bank Digital
Currency”, CEPR Discussion Paper 13728.
Fernández-Villaverde, J, D Sanches, L Schilling and H Uhlig (2021), “Central bank digital

currency: Central banking for all?”, Review of Ecconomic Dynamics 41: 225–242.
Kahn, C, J McAndrews and W Roberds (2005), “Money is privacy”, International

Economic Review 46: 377–399.
8 On the costs and benefits of privacy in transactions see e.g. Rogoff (2016) and Kahn et al. (2005), respectively. Bordo and
Levin (2017) emphasize the benefits of abolishing the effective lower bound on policy rates. In principle, interest rates
could be reduced below the effective lower bound even without legal restrictions on cash use, by means of cash carry taxes
or a flexible exchange rate between cash and reserves; see Niepelt (2018) for a review of the arguments.
Niepelt, D (2018), “Reserves for All? Central Bank Digital Currency, Deposits, and their
(Non)-Equivalence”, CEPR Discussion Paper 13065.
Niepelt, D (2020), “Monetary policy with reserves and CBDC: Optimality, equivalence,
and politics”, CEPR Discussion Paper 15457.
44
Raghuveera, N (2020), “Design choices of central bank digital currencies will transform
digital payments and geopolitics”, Atlantic Council, April.
Rogoff, K (2016), The Curse of Cash, Princeton University Press.
Tobin, J (1985), “Financial innovation and deregulation in perspective”, Bank of Japan

Monetary and Economic Studies 3: 19–29.
Tobin, J (1987), “The case for preserving regulatory distinctions”, Chapter 9 in

Restructuring the Financial System, Proceedings of the Economic Policy Symposium,
Jackson Hole, Federal Reserve Bank of Kansas City, pp. 167–183.
Tucker, P (2017), “The political economy of central banking in the digital age”, SUERF
Policy Note 13, June.
ABOUT THE AUTHOR
Dirk Niepelt is Director of the Study Center Gerzensee; Professor at the University of
Bern; President of the Swiss Society of Economics and Statistics; and Leader of the
CEPR Research and Policy Network on FinTech and Digital Currencies. His research
covers topics in macroeconomics, monetary economics, international finance, and public
finance, and he is the author of the MIT Press textbook Macroeconomic Analysis. Dirk
Niepelt received his PhD in economics from MIT and he holds licentiate and doctorate
degrees from the University of St. Gallen.
CHAPTER 6
Facing the central bank digital currency 45
trilemma
FACING THE CENTRAL BANK DIGITAL CURRENCY TRILEMMA | SCHILLING, FERNÁNDEZ-VILLAVERDE AND UHLIG
Linda Schilling, Jesús Fernández-Villaverde and Harald Uhlig
Olin School of Business at Washington University in St Louis and CEPR; University of
Pennsylvania and CEPR; University of Chicago and CEPR
How societies organise their monetary systems is a consequence of the interaction of

ideas (e.g. should a central bank target price stability?) with technology (e.g. how good
are we at issuing money that is hard to counterfeit?). This interaction is dynamic:
improvements in technology drive how we think about money and, vice versa, changes
in our ideas about money lead to developing new monetary technologies. Also, it is a
punctuated interaction: periods of rapid change are intersected among long years of
stability. Right now, we are living in one of those times of quick transformation. The
internet, advanced cryptography, and fast computational power mean that it is well
within the realm of feasibility to completely change our financial system. And these
technologies have led the private sector to introduce new ideas in the form of digital
currencies, from bitcoin to Facebook’s diem.
In response to this technological and private sector pressure, central banks are
considering a move from a structure where they operate only with large depository
institutions to a system where they interact with the public at large (‘central banking for
all’) through the issuance of central bank digital currencies (CBDCs). Even just 20 years
ago, the logistical challenge of a central bank running hundreds of millions of checking
accounts and tens of thousands of branches would have made the concept of a central
bank open to all risible. Today, it is possible.
But something being possible does not make it desirable from society’s perspective. As
more central banks rush into considering CBDCs, we must step back and weigh the costs
and benefits of this new dispensation. That is why, in our recent work (Schilling et al.
2020, Fernández-Villaverde et al. 2021), we have highlighted how central banks that issue
a CBDC will need to confront classic banking issues: achieving maturity transformation
while providing liquidity.
One first thread in our work is that central banks, contrary to the perception of many, are
also subject to runs, which we call ‘spending runs’. If the agents in the economy believe
that the price level will increase soon (regardless of whether this belief is based on solid
facts), they will run to get rid of their holdings of central bank liabilities – whether they
be cash, deposits or CDBC – as soon as they can. Since the total amount of goods existing
in the economy is essentially fixed in the very short run, the consequence of a spending
run will either be an immediate increase in prices, thus self-fulling the concerns about
inflation that triggered the run, or shortages due to the stocking out of goods.
Such spending runs occurred often during the 20th century. For instance, in May 1990,
46
the faltering Soviet government proposed an increase in retail prices. Although this
proposal was never approved, it nonetheless led to a massive run on the ruble. Shops,
either state-owned or in the growing private sector, soon stocked out (Ellman 2014:
78). Similar spending runs occurred in Latin America during the 1970s and early 1980s
whenever rumours of a devaluation spread. Interestingly, when a spending run occurs,
the central bank’s ability to issue unlimited nominal liabilities (an alleged fool-proof
barrier against financial crises) is counterproductive: additional nominal liabilities only
aggravate the situation, as agents will have even more incentive to spend those nominal
liabilities as soon as possible.
Note that a spending run is not about exchanging a CBDC for cash or deposits; these
are just other nominal liabilities of the central bank, either directly (cash) or indirectly
(deposits convertible into cash). A spending run is about getting rid of the CBDC and
any other central bank nominal liability by transforming them into real goods or assets
(rolls of toilet paper, a car, a house) before inflation erodes the rate of exchange between
nominal liabilities and real goods.
Spending runs are not unique to CBDCs. We know since at least Obstfeld and Rogoff (1983)
that self-fulling hyperinflation is inherent to government-issued monies. Fernández-
Villaverde and Sanches (2019) show that the same problem plagues privately issued
cryptocurrencies. But a CBDC puts the central bank on the spot because the speed of
electronic transactions makes it possible to have a spending run nearly instantaneously.
A second main thread of our work is that, because of the existence of nearly instantaneous
spending runs, central banks face what we call the CBDC trilemma. In general, one would
like a central bank to deliver three goals. First, we want financial stability – that is, to
avoid the spending runs we described above. Second, we want efficiency – that is, that
the economy achieves the optimal risk-sharing between patient and impatient agents (or,
equivalently, the optimal maturity transformation between short-run deposits and long-
run investment projects). Third, we want price stability – that is, prices do not change
too fast and disrupt allocations, for instance because most contracts are expressed in
nominal terms.
FIGURE 1 THE CBDC TRILEMMA
Financial Price
Stability stability
47
Optimal
risk-sharing
Note: For the central bank, it is impossible to attain all three objectives at a time. When prioritising one objective, at least
one other objective must be sacrificed.
In Schilling et al. (2020) we argued that, unfortunately, a central bank that operates a
CBDC can only deliver two of these three goals. Figure 1 summarises the idea that, when
prioritising one objective, at least one other objective must be sacrificed.
We formally prove our argument by building a nominal version of the classical model
of Diamond and Dybvig (1983). We pick this model because it emphasises banks’ role
in maturity transformation: banks pool resources and finance long-term projects with
demand deposits that can be withdrawn at a short time horizon to meet liquidity shocks
by impatient agents. By offering risk-sharing, banks enable allocations that are not
attainable under autarky. Yet, the optimal amount of risk-sharing requires banks to be
prone to runs. While our results are cast in terms of our Diamond and Dybvig model, we
conjecture that the CBDC trilemma appears in a large class of models of banking, as it
captures essential trade-offs that reach beyond the details of a concrete model.
We depart from the original formulation of the Diamond and Dybvig model in a crucial
aspect. While Diamond and Dybvig (1983) consider intermediation with private banks,
a CBDC implies central bank intermediation. In fact, to make our model as stark as
possible, we just assume that the central bank operates all real technology and provides
all the economy’s deposit functionality.1 This difference is consequential because a central
bank can control the price level. For example, a central bank can issue additional units
of a CBDC to cover losses in its loan portfolio, implicitly diffusing the costs of the credit
losses among all holders of the currency. To further simplify the analysis, we also assume
that a central bank can influence (within some constraints) how many goods are offered
1 In an extension, we analyse how our results extend to the case where the central bank shares the deposit market with
private banks. Our main results hold with some minor qualifications.
in the economy in the short run. This assumption is not too different from, for example,
the standard assumption in New Keynesian models where central banks determined
output in the short run by setting a nominal interest rate.
As the first part of the trilemma, we prove that the central bank can always implement
48
the socially optimal allocation in dominant strategies while deterring runs by credibly
threatening high inflation whenever nominal spending is excessive. This threat is
implemented by limiting the supply of goods in the case of a run, thereby rendering early
spending by patient agents (i.e. those who do not receive utility from consuming right
now) suboptimal ex post. Since holders of a CBDC are rational, the central bank’s inflation
threat deters runs ex ante, such that high inflation only occurs off the equilibrium path.
This result contrasts with the Diamond and Dybvig model, where banks do not have the
option of changing the aggregate price level in response to a run. Hence, there, runs can
occur as equilibrium phenomena, in which case the social optimum does not obtain.
On the second part of the trilemma, the threat of inflation may not be credible for modern
central banks given their commitment to price stability, which is often reinforced in their
governing charters or imposed by the political process. If we take the central bank’s
commitment to price stability seriously and we enforce it as the primary objective within
the model, either the allocation is suboptimal or a spending run on the central bank
currency can no longer be ruled out.
Our CBDC trilemma does not appear because central bankers are pursuing their private
interests; in our environment, central bankers try their very best to deliver the goals we
impose (financial stability, optimal risk sharing and price stability) but face inescapable
trade-offs. Nonetheless, CBDCs might also complicate the political economy of central
banking in ways that are not fully appreciated. The CBDC trilemma becomes much more
significant under these political-economy pressures.
In Fernández-Villaverde et al. (2021), we sketch some of these concerns. We prove that

a central bank can offer the socially optimal deposit contract through CBDCs, just as
commercial banks do (an ‘equivalence result’). But we also show that a central bank can
exploit two fundamental aspects of public law in nearly all legal systems: the seniority of
the debt to the central bank and the protection it enjoys against forced liquidation. The
central bank can take advantage of these two features to offer contracts with a higher
expected rate of return than that which commercial banks can offer and displace them
from the market. This displacement occurs even when the central bank does not have any
fiscal backing from the government. But this monopoly power can endanger the supply of
the first-best amount of maturity transformation in the economy by allowing the central
bank to deviate from offering the socially optimal deposit contract. In other words, the
‘equivalence result’ is fragile.
Can central banks resist this temptation? Political-economic reasons make us doubt it.
In July 2020, the ECB approved its new monetary policy strategy.2 A central aspect of the
new strategy is an ambitious climate change action plan that answers growing political
pressure across Europe. Indeed, if the central bank has market power, it can divert
investment toward environmentally friendly technologies, for instance by diverting the 49
profits generated by market power toward firms with lower CO2 emissions through more
advantageous financial contracts. Is this the best way to fight climate change?
The political-economic pressures are endless: diverting investment toward firms that
lead in gender and racial equality, diverting investment toward firms to bridge the rural–
urban divide, diverting investment toward poorer regions, diverting investment toward
firms that offer a better balance of family and work life, diverting investment toward
‘strategic’ sectors of high added value, diverting investment toward ‘national champions’,
and so forth. More worrisome, we are concerned with the ubiquity of less benign reasons,
such as diverting investment to firms owned by the cronies of the political party in power.
We must realise, therefore, that CBDCs represent a risk to how central banks operate.
By forcing central banks into policy issues beyond their core purview, CBDCs create
mechanisms that might induce the political process to reconsider central bank
independence. If a central bank is increasing financial inclusion (an explicitly stated
goal of many defendants of CBDCs), many voters might ask why it should enjoy a higher
level of independence while implementing this goal than, for example, a regular ministry
of finance. Where are the time-inconsistency considerations that motivate granting
independence to a central bank narrowly focused on conducting conventional monetary
policy? While these might not be unsurmountable challenges to the introduction of
CBDCs, they are, nonetheless, essential considerations to keep in mind.
Central banks will face, in a world with CBDCs, a whole new set of challenges. In our
work, we have characterised what we think is the most important: the CBDC trilemma
of financial stability, optimal risk sharing, and price stability. But the implications of this
CBDC trilemma run deeper, to the core of central banking. We want to be sure of what
we do before we open the door to CBDCs.
REFERENCES
Diamond, D W and P H Dybvig (1983), “Bank Runs, Deposit Insurance, and Liquidity”,
Journal of Political Economy 91: 401–419.
Ellman, M (2014) Socialist Planning, 3rd edition, Cambridge University Press.
Fernández-Villaverde, J, and D Sanches (2019), “Can currency competition work?”,

Journal of Monetary Economics 106: 1–15.
2 https://www.ecb.europa.eu/press/pr/date/2021/html/ecb.pr210708~dc78cc4b0d.en.html.
Fernández-Villaverde, J, D Sanches, L Schilling, and H Uhlig (2021), “Central bank
digital currency: Central banking for all?”, Review of Economic Dynamics 41: 225–242.
Obstfeld, M, and K Rogoff (1983), “Speculative Hyperinflations in Maximizing Models:

Can We Rule Them Out?”, Journal of Political Economy 91: 675–687.
50
Schilling, L, J Fernández-Villaverde and H Uhlig (2020). “Central Bank Digital Currency:
When Price and Bank Stability Collide”, CEPR Discussion Paper 15555.
ABOUT THE AUTHORS
Linda Schilling joined the Olin Business School as an Assistant Professor in Finance in
2021. She received her Ph.D. in Quantitative Economics from the University of Bonn
in 2017. Since then, she has been holding positions as Assistant Professor for Financial
Economics at the University of Utrecht in the Netherlands and Ecole Polytechnique
CREST in Palaiseau, France. Linda holds a Diplom (equivalent to Masters) in pure
mathematics from the University of Bonn and a Master’s in financial mathematics from
the University of Edinburgh.
Jesús Fernández-Villaverde is Professor of Economics at the University of Pennsylvania,

where he serves as Director of the Penn Initiative for the Study of Markets, Visiting
Professor at University of Oxford, Visiting Scholar at the Federal Reserve Banks
of Chicago, New York, and Philadelphia and the Bank of Spain, and a member of the
National Bureau of Economic Research and the Center for Economic Policy Research. He
is a fellow of the Economic Society and a recipient of the Herrero Prize for Outstanding
Economists under 40 in Spain. His research focuses on macroeconomics, machine
learning, econometrics, and economic history.
Harald Uhlig is the Bruce Allen and Barbara Ritzenthaler Professor at the Kenneth C.
Griffin Department of Economics of the University of Chicago. He served as chairman
of that department from 2009-2012. Previously, he held positions at Princeton,
Tilburg University, and the Humboldt Universität Berlin. His research interests are in
macroeconomics, financial markets, and Bayesian econometrics. He served as co-editor
of Econometrica from 2006 to 2010 and as JPE lead editor from 2013 to 2021. He is
a fellow of the Economic Society and a recipient of the Gossen Preis of the Verein für
Socialpolitik.
CHAPTER 7
Can central bank digital currency 51
transform digital payments?
CAN CENTRAL BANK DIGITAL CURRENCY TRANSFORM DIGITAL PAYMENTS? | FATAS

Antonio Fatas
INSEAD, CEPR and ABFER
An increasing number of central banks are exploring the possibility of creating their own
version of digital money, typically referred to as central bank digital currency (CBDC).1
By now there is a clear consensus on the potential benefits and costs of CBDC, even if
there is an ongoing debate on their relative size (e.g. Bank of England 2020). Most of
the initial discussions were focused on the potential risks of bank disintermediation, in
particular in times of crises (Andolfatto 2021, Brunnermeier and Niepelt 2019, Niepelt
2020). While the debate on the significance of these costs might not be fully resolved, it
has produced a set of viable proposals to limit this risk.2
In this chapter, I focus on the other side of the arguments – the benefits of CBDC. The list
of potential benefits is quite diverse but can be grouped into two big themes:
• the need for a public form of money that ensures financial inclusion and is a key
pillar of the monetary system; and
• the importance of offering an alternative that competes with newly created forms
of private digital money.
I argue that achieving each of these goals might require very different instruments and
that the creation of retail accounts at the central bank can only deliver a small subset
of the claimed benefits. For the others, we need an overhaul of the way the payments
rails work in a digital world, one that involves different tools that are, to a large extent,
orthogonal to the creation of CBDC.
THE EASY PART
Central banks guarantee the value of the unit of account through their management of
monetary policy and the provision of an asset – physical currency – that is the cornerstone
of that trust (BIS 2021c). Private forms of money – bank deposits – coexist with physical
1 Recent surveys by the Bank for International Settlements suggest that more than 85% of central banks are actively
engaging in the analysis and development of CBDC, up from around 65% three years earlier (Auer et al. 2021, Boar and
Wehrli 2021).
2 Either by setting a cap on CBDC balances or by allowing for tiered interest rates to dissuade the general public from
transferring large bank deposits to CBDC accounts (Bindseil 2020, BIS 2021b).
currency, but individuals always have an option to redeem those assets for cash. In
addition, central banks provide finality in payments by settling claims between banks
when individuals make use of private money for payments.
As payments become more digital and the role of physical currency decreases, central
52
banks are concerned about their diminishing role and the potential impact on trust in the
monetary system. The Riksbank, an early mover in this area, summarises it well: “There
is a risk of basic trust in the Swedish krona and the monetary system being undermined
when it is no longer possible for the general public to change their banks deposits into
state money” (Söderberg 2019). Or in the words of the ECB (2020), CBDC is the “natural
transition from currency”.
The creation of retail CBDC accounts will fully address this concern. It will create a digital
alternative to physical currency that will maintain the role of central banks in ensuring
the value of the unit of account. 3 In addition, achieving this goal does not require that
CBDC becomes widely used. Today, in many countries, individuals mostly rely on digital
forms of payments, but the existence of cash and its availability still provides an anchor
to the unit of account.
THE HARD PART
Central banks want more than just a replacement for cash. They also want an alternative
to private forms of payments to ensure a competitive landscape, one that includes
everyone, is efficient and adds resilience. To reach these objectives, CBDC would need to
be widely used, accepted everywhere. And if resilience is indeed a required goal, it would
need to run in parallel with private forms of payments.
To achieve this goal, central banks need a lot more than just creating accounts at the
central bank. For digital money to become a successful means of payment, it needs to
be used everywhere (peer-to-peer (P2P) transfers, accepted as payment by merchants).
Here is where central banks find themselves in a difficult position. In principle, central
banks could aim to create an efficient, ubiquitous parallel infrastructure for payments.4
But, for many good reasons, central banks do not want to do this. Recreating a parallel
system of payments for the sake of resilience seems wasteful and central banks might
lack the necessary capabilities to do so (ECB 2020). As central banks recognise these
limitations, they are exploring hybrid solutions (Auer and Böhme 2020, BIS 2021d). A
hybrid solution requires collaboration with private entities that serve as intermediaries,
facilitate customer-facing tasks, provide the last mile of the payment system and compete
with each other.
3 Of course, central bank money already exists in digital form as reserves of commercial banks at the central bank. But the
fact that the public does not have direct access to it means that it cannot be seen as a digital replacement to currency.
4 Some have suggested that making CBDC legal tender would be a key step to ensure its adoption. But the notion of legal
tender for digital payments is not a practical one and it is unlikely to be effective (Bossu et al. 2020).
But relying on the private infrastructure of payments will hinder the ability of CBDC to
achieve all its goals. For example, central banks recognise that “resilience benefits would
need to be assessed against the costs” required to provide it. The same can be said about
inclusion: private payment providers might still lack the incentives to provide affordable
services everywhere, so “legislation requiring basic access could be proposed” (BIS 53
2021d).5

More fundamentally, what about the goal of making CBDC a widely used efficient
payment technology? Here is where things get more challenging. Digital payments are
as much about the underlying assets as about the payment technology that facilitates the
transaction (Fatas and Weder di Mauro 2018). A modest goal could be to facilitate P2P
transactions within CBDC accounts, replicating what private platforms such as Venmo
or WeChat do today. But this is not enough to satisfy many of the CBDC goals.
Making CBDC an everyday payment technology requires full integration and

interoperability with all the networks of the current ecosystem of payments. This is
highlighted in the recent report by BIS and seven major central banks that emphasises
the importance of interoperability for CBDC success (BIS 2021d). But achieving this goal
requires a substantial rewriting of the payment rules and a rethinking of what the future
infrastructure should look like.
Today, interoperability between banks is guaranteed through the combination of a single

settlement system run by the central bank (all ‘wallets’ are connected through a node)
and a set of unique digital identifiers (bank accounts). But as we add additional electronic
wallets or payment rails run by FinTech and BigTech firms, the payments ecosystem
becomes very complex. Today, transfers or payments across networks are facilitated
mostly by banks operating as intermediaries, with the help of credit card companies that
often provide the infrastructure. In some jurisdictions, banks and credit card companies
hold substantial market power that results in inefficiencies and high costs. FinTech and
BigTech are challenging this power by attempting to lure individuals into their own
ecosystem. But that comes at the cost of more complexity and limited interoperability.
This is the environment in which CBDC will be launched. Reaching the goal of
interoperability requires a broad rethinking of the rules, the roles of intermediaries, the
potential market power of incumbents or the power that BigTech could build over time.
As an example of the difficult trade-offs, one could argue that CBDC and interoperability
might, in some cases, increase the market power of BigTech firms. Today, in regions such
as the US and Europe, BigTech has not gained much traction when it comes to digital
payments because of the power that banks and credit card companies exercise over the
network of payments. What would happen if payments could easily be done using any form
of digital money? And what if CBDC became the pillar for private providers to deliver an
5 It is also unclear what is required to achieve inclusion in digital payments. BIS (2021a) cites as a factor the fact that in a
country like France, 13% of adults do not own a mobile phone. How will CBDC change that?
efficient settlement or to design successful stablecoins around it?6 In that environment,
interoperability and safety of the underlying assets would mean that individuals would
be indifferent between different electronic wallets. The decision to use one or the other
would entirely depend on the benefits that the payment technology offers. Some of these
54 benefits are likely to be linked to other digital activities originating in the ecosystem
where the payments take place. BigTech firms are likely to have the upper hand when it
comes to this race. CBDC could not compete with them.7
CONCLUSION
For central banks concerned about the disappearance of currency and the need to have
a public form of digital money, retail CBDC is the solution. Accounts at the central bank
available for everyone will become the digital equivalent of currency.
But when it comes to the goal of ensuring a competitive, efficient and inclusive payment
system, the issues are more complex and they have to do more with the regulatory and
technology environment of payment systems. CBDC is in no way a substitute for the
needed reforms to the architecture of payments. In fact, we have seen, without CBDC,
great progress in some countries when it comes to the payment infrastructure.8 Fast
payments, access of non-banks to the central bank settlement system, the use of digital
IDs to improve interoperability or even the promise of seamless cross-border payments by
connecting national payment systems are all examples of increased efficiency, inclusivity
and competition in payments. On the positive side, the creation of CBDC could become a
catalyst for all these changes even if the tools required to reform the payment system are,
to a large extent, orthogonal to the creation of CBDC. The biggest risk is that the attention
on and energy put into CBDC becomes a distraction for central banks and regulators,
moving the focus away from the necessary regulatory and technology changes.
REFERENCES
Andolfatto, D (2021), “Assessing the impact of central bank digital currency on private
banks”, The Economic Journal 131(634): 525–540.
Auer, R and R Böhme (2020), “CBDC architectures, the financial system, and the central
bank of the future”, VoxEU.org, 29 October.
Auer, R, G Cornelli and J Frost (2021), “Central bank digital currencies: Drivers,
approaches, and technologies”, VoxEU.org, 28 October.
6 This is not just a hypothetical question. Diem (formerly Libra) in its white paper suggests that the creation of CBDC would
facilitate the operation of its stablecoin (Diem Association 2020).
7 Safety of CBDC is unlikely to be a strong argument. Privacy is another one that is mentioned as a potential advantage
(ECB 2021), but it is a complex issue as regulation might also impose strict privacy restrictions to private forms of digital
payments.
8 India and Singapore just announced that in 2022 their fast payments systems will be linked through a set of unique
account identifiers (www.mas.gov.sg/news/media-releases/2021/singapores-paynow-and-indias-upi-to-link-in-2022).
Bank of England (2020), “Central Bank Digital Currency: Opportunities, challenges and
design”, Discussion Paper.
Bindseil, U (2020), “Tiered CBDC and the financial system”, ECB Working Paper Series.
BIS – Bank for International Settlements (2021a), CBDCs: An opportunity for the 55
monetary system, Annual Report.

BIS (2021b), Central bank digital currencies: financial stability implications.
BIS (2021c), “Central bank digital currencies - executive summary”.
BIS (2021d), Central bank digital currencies: System design and interoperability.
Boar, C and A Wehrli (2021), “Ready, steady, go?-Results of the third BIS survey on central
bank digital currency”, BIS Papers 114.
Bossu, W, M Itatani, C Margulis, A D P Rossi, H Weenink and A Yoshinaga (2020), “Legal

aspects of central bank digital currency: Central bank and monetary law considerations”,
IMF Working Paper.
Brunnermeier, M K and D Niepelt (2019), “On the equivalence of private and public
money”, NBER Working Paper 25877.
Diem Association (2020), “White Paper 2.0”.
ECB – European Central Bank (2020), Report on a digital euro.
ECB (2021), Eurosystem report on the public consultation on a digital euro.
Fatas, A and B Weder di Mauro (2018), “Making (some) sense of cryptocurrencies: When
payments systems redefine money”, VoxEU.org, 7 May.
Niepelt, D (2020), “Digital money and central bank digital currency: An executive
summary for policymakers”, VoxEU.org, 3 February.
Söderberg, G (2019), “The e-krona – now and for the future”, Sveriges Riksbank Economic
Commentaries No 8, October.
ABOUT THE AUTHORS
Antonio Fatas is the Portuguese Council Chaired Professor of Economics at INSEAD, an

international business school with campuses in Fontainebleau (France) and Singapore.
He is also a Senior Policy Scholar at the Center for Business and Public Policy at the
McDonough School of Business (Georgetown University, USA), a Research Fellow at
the Center for Economic Policy Research (London, UK) and a Senior Research Fellow
at the Asian Bureau of Finance and Economic Research (ABFER, Singapore). He
received a Masters and Ph.D. in Economics from Harvard University (Cambridge, MA,
USA). He has also worked as an External Consultant for the International Monetary
Fund, the World Bank, the OECD and the European Commission. He was the Dean of
the MBA programme at INSEAD from September 2004 to August 2008. His research
covers areas such as the macroeconomic effects of fiscal policy, the connections between
business cycles and growth and the effects of institutions on macroeconomic policy and
56 has published in academic journals such as Quarterly Journal of Economics, Journal
of Monetary Economics, Journal of Economic Growth, Journal of Money, Banking and
Credit, and Economic Policy.
CHAPTER 8
Central bank digital currency: Is it really 57
worth the risk?
CENTRAL BANK DIGITAL CURRENCY: IS IT REALLY WORTH THE RISK? | CECCHETTI AND SCHOENHOLTZ
Stephen G. Cecchetti and Kermit L. Schoenholtz
Brandeis International Business School and CEPR; New York University
As we write in October 2021, central banks around the world are considering whether
to issue retail digital currencies for individual use. According to the Atlantic Council’s
tracker,1 five small Caribbean nations have taken the plunge, 14 much larger countries
are running pilots (including China and Sweden), and dozens of others are studying the
possibility.
At one level this seems odd. For residents of advanced economies, the transition from
physical to digital payments instruments is essentially complete. Virtually all their
financial transactions use privately run payments networks to transfer the digital
liabilities of private commercial banks (see Figure 1). For example, in the United
Kingdom, where the total quantity of M3 is 148% of GDP, demand and time deposits –
digital entries on the ledgers of banks – account for 97% of the total (or 144% of GDP).
For the euro area, 91% of M3 is digital. And, in China, where broad money exceeds 200%
of GDP, 96% of it is digital.
So, as we look at the evolution of the financial system, we are led to ask the following
question: Why would a central bank want to issue retail digital currency? Do the benefits
outweigh the costs?
Before we get to that, we need to define what we mean by central bank digital currency
(CBDC). Our view is that it is a universally accessible system in which individuals can
hold unlimited amounts of interest-bearing central bank liabilities. To ensure that it is
not facilitating criminal activity, the system will be account-based in which holders are
identifiable to the government.2 Assuring that private bank liabilities used for transactions
are convertible into central bank money under virtually all conditions requires an elastic
supply of CBDC. And, since wholesale central bank liabilities (financial intermediaries’
deposits) are already remunerated, it would be politically difficult to avoid paying interest
on retail CBDC.
1 https://www.atlanticcouncil.org/cbdctracker/
2 We agree with Carstens (2021) that the important of identity verification strongly suggests that CBDC must be account-
based rather than token based. Furthermore, we do not distinguish between accounts that are held directly at the central
bank and those held by agents who aggregate accounts into what is in essence a narrow bank. See the discussion in Auer
and Boehme (2021).
FIGURE 1 FRACTION OF BROAD MONEY ISSUED BY COMMERCIAL BANKS AND THE
RATIO OF BROAD MONEY TO GDP, 2020 (PERCENT, YEAR-END)
100% 148% 219% 126% Numbers above the bars are the ratio of total broad money to GDP
272% 159% 124% 88%
90%
58
Fraction of broad money issued by commericial banks
52%
80%
70%
60%
50%
40%
30%
20%
10%
0%
United China Canada Japan Switz erland Euro Area United States Russian
Kingdom Federation
Sources: Bank of England (M3), People’s Bank of China (Money + Quasi Money), Bank of Canada (M3), Bank of Japan (M3),
Swiss National Bank (M3), Eurostat (M3), Bank of Russia (M2), Federal Reserve (M2), and FRED.
POTENTIAL BENEFITS OF CBDC
Many of the costs and benefits arise from a combination of externalities, market power
and public goods that cause market failures. For example, network externalities lead
the private payment system to be highly concentrated, allowing customer exploitation.
Similarly, a currency with a stable value is a public good that is difficult for private agents
to provide in all states of the world.3
From this perspective, the list of potential benefits is relatively long. Here we briefly
describe eight key benefits:
• Reduce costs of and improves access to domestic and cross-border payments.

In many parts of the world, even the United States, domestic payments remain
expensive. For cross-border remittance, the costs are even higher. Allowing
individuals to clear payments directly over central bank balance sheets, either
within their own country or through an inter-operable multi-country system, could
reduce costs and improve access.
3 See the discussion in Cecchetti and Schoenholtz (2021).

• Broaden access to the financial system more generally. According to the
World Bank’s Findex survey, in 2017, roughly half of the four billion adults (16+)
in low- and lower-middle-income countries did not have an account at a financial
institution. Even in the United States, the FDIC estimates that in 2017 one-fourth
of households were ‘unbanked’ or ‘underbanked’. By offering no-frills, low-cost 59
accounts at the central bank, it should be possible to reduce the size of the unbanked
and underbanked population.
• Facilitate the distribution of government benefits. In the midst of natural
disasters, governments can find it difficult to transfer resources to those in need.
Distributing benefits during the pandemic was a particular challenge. If households
and businesses were to have accounts at the central bank (either directly or through
an authorized agent), such transfers would be faster and more reliable.4
• Relax the zero lower bound constraint on the policy interest rate. Absent paper
currency alternatives with a zero nominal interest rate, the central bank could set
deeply negative nominal interest rates. Furthermore, commercial banks would be
able to follow suit (Bordo and Levin 2017).5
• Substitute for undesirable cryptocurrencies and risky stablecoins. Today,

there are thousands of private token-based currencies – commonly known as
cryptocurrencies.6 There also are dozens of unregulated stablecoins backed by
various combinations of assets. The value of these is now large and rising, with many
having market capitalisation above $1 million.7 Authorities fear that fluctuations
in the value of these instruments could be sources of broader financial instability.
CBDC could displace these, helping to promote financial resilience.
• Help counter tax evasion and criminal uses of currency. Identification of the
holders of account-based CBDC would improve tracking of financial transactions
both domestically and internationally. This could enhance authorities’ ability to
ensure tax compliance as well as prevent money laundering and terrorist finance.
• Prepare for competition from other official suppliers of CBDC. For all but the
largest jurisdictions, issuance of CBDC could help limit the further substitution
from domestic currency into currencies such as the US dollar, the euro or the
renminbi. By issuing their own attractive and convenient digital currency, smaller
countries could guard against the potential loss of monetary sovereignty.
4 Included in this category are direct money-financed fiscal expansions in which central bank money is transferred directly
to individuals—what is known as “helicopter money.” See Prasad (2021) and Cecchetti and Schoenholtz (2016).
5 Note that, in the absence of paper currency, the chief alternative to using a negative-interest rate currency for transactions
is barter, a deeply inefficient technology, or using a foreign currency that introduces exchange rate risk.
6 See Carstens (2021) for a description of the difference between token- and account-based digital currencies.
7 https://coinmarketcap.com/ (accessed on 13 October 2021). Total market capitalisation of cryptocurrencies now exceeds
$2 trillion and that of stablecoins is well over $100 billion.
• Reduce the cost of deposit insurance. To the extent that CBDC displaces insured
deposits in private banks, it could reduce the need for government-supplied deposit
insurance.
60
POSSIBLE COSTS OF CBDC
Balancing these potential benefits are five costs:

• Disintermediation of depositories and the risk of creating a massive state bank.

While inertia (combined with interest rate increases and service improvements)
might keep funds in the banking system for some time, financial strains eventually
would prompt uninsured (and possibly insured) deposits to flee private banks for
the central bank.8 As funds shift, sources of private credit will dry up, driving the
central bank to become a commercial lender. Over time, this state bank will be
tempted to substitute for the discipline of private lenders and markets, inviting
political interference in the allocation of capital and slowing economic growth.9
• Currency substitution from less trustworthy jurisdictions. Highly trusted

central banks that operate in relatively stable political and financial jurisdictions
likely will receive inflows from abroad. Given the current high foreign demand
for US paper currency, imagine what would happen if the Fed offered universal,
unlimited accounts.10 The consequences could be catastrophic for the financial and
monetary systems of emerging market and developing economies.
• Loss of privacy. The flipside of improved tax compliance is a loss of privacy. CBDC
is traceable, allowing governments to monitor virtually all individual transactions.
In democratic societies, it will be essential to have credible safeguards to ensure
that this information is not used by malevolent official sector actors.
• Compliance with know your customer (KYC) and anti-money laundering

(AML) rules. Someone will have to ensure that the users of CBDC are law
abiding. Such KYC and AML monitoring is costly. As regulated guardians of the
private payment networks, commercial banks currently perform these tasks. In
a CBDC regime, who will supply these costly services? One approach is to create
‘intermediated CBDC’, in which regulated brokers (or banks) charge a fee to provide
individual account services, guard privacy, monitor compliance and aggregate
balances into accounts at the central bank.
8 We would also expect to see investors flee nonbank intermediaries that offer uninsured liquid liabilities, such as money
market funds and some open-end mutual funds, putting the proceeds into their CBDC account.
9 The central bank could recycle funds to the private sector through enhanced lending operations. But since central banks
only lend on a collateralised basis, the haircut and margin structure of their collateral frameworks will provide powerful
tools for indirect intervention in credit allocation.
10 Judson (2017) estimated that roughly 60 percent of what was then $1.5 trillion of U.S. currency was held abroad.
• Diminish payments competition and discourage entry of efficient private
providers. By supplanting private liabilities, CBDC will reduce the competition in
payments and issuance of other private liabilities that generally serve as money. The
result could be a lack of innovation and an increase in costs to individuals.
61
KEY QUESTIONS TO RESOLVE BEFORE ISSUING CBDC
Before issuing CBDC, a central bank should carefully weigh these costs and benefits.
Critically, policymakers need to ask if there are other, less costly ways to achieve the
benefits. We see the following questions:
• Are there ways to improve the payment system? We already see public and
private sectors moving to provide cheaper, faster, more reliable, and more accessible
systems that operate both within and across borders.11
• Are there ways to improve access? Here, we find the case of India is instructive.
Started in 2014, the Pradhan Mantri Jan Dhan Yojana (PMJDY) provides no-frills
bank accounts without charge, using the country’s universal biometric personal
identification to lower compliance costs. The lesson we take away is that improving
access requires government involvement and subsidies.12
• How can we improve the efficient distribution of government benefits?

Governments already have information on their citizens’ financial accounts both
for tax purposes and for the payment of benefits. Why can’t they use it?
• Are there other means to enhance the effectiveness of monetary policy at the
zero lower bound? Over the past decade, central bankers devised a broad array
of policy tools to allow them to ease policy further when the nominal interest rate
hits zero. Would there be sufficient public support for deeply negative interest rates
on widely held central bank and private bank liabilities to make the tool usable?
Are there additional tools to employ? If not, should fiscal expansion be preferred to
deeply negative interest rates?
• How can we make cryptocurrencies and stablecoins safe? This is a key question
regardless of whether central banks issue digital currency. As these become
potential sources of financial instability, governments will have to act. Strategies
include outright bans, registration requirements, standardised disclosures, and
regulation of exchanges and broker-dealers, to name just a few.
11 To take just one example, the euro area has the TIPS system, with a processing time of 10 seconds at a cost of €0.002 per
transaction. Over the next few years, the ECB will extend this to other currencies.
12 See Cecchetti and Schoenholtz (2017) for more detail on the Indian programme.
• What is the best way to counter tax evasion and criminal use of money?
Account-based CBDC will surely make it more difficult for criminals to transact
and for people to evade taxes. Absent CBDC, are there efficient ways to identify and
prevent these actions under the evolving payments framework?
62
In every one of these cases, we see alternatives that limit disintermediation, currency
substitution and the intrusion of governments into privacy of individuals, while
preserving incentives for welfare-enhancing financial innovation. So, if central banks

eventually move to issue digital currency, they will need to state their objectives clearly
and explain why CBDC is the lowest-cost and least-risky means of achieving those goals.
Ultimately, their decisions will shape the financial system of the future.
REFERENCES
Auer, R and R Boehme (2021), “Central bank digital currency: the quest for minimally
invasive technology,” BIS Working Paper No 948.
Bordo, M D and A T Levin (2017), “Central Bank Digital Currency and the Future of
Monetary Policy,” NBER Working Paper No. 23711.
Carstens, A (2021), “Digital currencies and the future of the monetary system,” speech at
the Hoover Institution policy seminar, 27 January.
Cecchetti, S G and K L Schoenholtz (2016), “A Primer on Helicopter Money,” www.

moneyandbanking.com, 27 June.
Cecchetti, S G and K L Schoenholtz (2017), “Banking the Unbanked: The Indian

Revolution,” www.moneyandbanking.com, 6 November.
Cecchetti, S G and K L Schoenholtz (2021), “Central Bank Digital Currency: The Battle
for the Soul of the Financial System,” www.moneyandbanking.com, 21 June.
Judson, R (2017), “The Death of Cash? Not So Fast: Demand for U.S. Currency at Home
and Abroad, 1990-2016,” International Cash Conference 2017 – War on Cash: Is there a
Future for Cash?, Deutsche Bundesbank.
Prasad, E (2021), The Future of Money: How the Digital Revolution is Transforming
Currencies and Finance, The Belknap Press of Harvard University Press.
ABOUT THE AUTHORS
Stephen G. Cecchetti is Rosen Family Chair in International Finance at the Brandeis

International Business School, Research Associate at the NBER, Research Fellow at the
CEPR, and Vice-Chair of the Advisory Scientific Committee of the European Systemic 63
Risk Board. From 2008 to 2013, Cecchetti served as Economic Adviser and Head of the
Monetary and Economic Department at the Bank for International Settlements. From
1997 to 1999 he was Director of Research at the Federal Reserve Bank of New York. In
addition, he has served on the faculty of The Ohio State University and the New York
University Leonard N. Stern School of Business.
Kermit L. Schoenholtz is Clinical Professor Emeritus at New York University’s Leonard

N. Stern School of Business, where he taught courses on money and banking and on
macroeconomics and directed NYU Stern’s Center for Global Economy and Business. He
also serves on the Financial Research Advisory Committee of the U.S. Treasury’s Office
of Financial Research. Previously, he was Citigroup’s global chief economist 1997 until
2005. Schoenholtz joined Salomon Brothers in 1986, working in their New York, Tokyo,
and London offices, eventually becoming chief economist at Salomon and Salomon Smith
Barney, prior to the formation of Citigroup.
CHAPTER 9
Central bank digital currency, FinTech 65
and private money creation
CENTRAL BANK DIGITAL CURRENCY, FINTECH AND PRIVATE MONEY CREATION | BRUNNERMEIER AND PAYNE
Markus Brunnermeier and Jonathan Payne
Princeton University and CEPR; Princeton University
Currently, central banks issue physical money in the form of cash that anyone can hold
and digital money in the form of reserves that only commercial banks can hold. Retail
digital money creation has been left to the financial sector, which bundles it with the
provision of other financial services. Prominent examples are the bundling of digital
money with lending in the commercial banking sector and the bundling of digital money
creation with smart contracting in the nascent FinTech industry.
A number of policy proposals aim to end the dichotomy between access to physical and
digital public money. One example is the introduction of a central bank digital currency
(CBDC), which is a digital token supported by a ledger maintained by the central bank.
An alternative would be to allow non-banks to have accounts with the central bank and
provide transaction services without a banking license.
Making public money widely accessible will trigger a restructuring of the financial
sector. Competition from CBDC will undermine the commercial banking sector’s deposit
franchise and potentially limit the development and flexibility of FinTech innovation.
This will likely lead to the unbundling of digital money creation from other financial
services. In this chapter, we attempt to understand whether this unbundling is socially
desirable.
UNBUNDLING MONEY FROM LENDING
Commercial banks are in the business of lending to firms and households as well as in
the business of creating deposits, i.e. (inside) money. The lending activity is reflected on
banks’ asset side of the balance sheet, while deposit taking is on their liability side.
A priori, it is not obvious why both activities should be bundled together and offered by
the same institution. One could easily envision an arrangement in which banks specialise.
Some banks specialise in the lending activity, funding themselves on funding markets,
while other banks focus on deposit/money creation. The latter are often referred to as
‘narrow banks’; they issue deposits and park the receipts in a central bank account or
hold government bonds.
In a world where banks specialise, the introduction of CBDC (or accounts at the central
bank) creates new direct competition for ‘narrow’ banks, but it does not directly affect
lending activity. By contrast, in a world in which commercial banks combine lending and
digital money creation, the broadening access to public digital money can alter lending as
66 well. To evaluate the implications of such policy measures, it is important to understand
the underlying rationale for the bundling.
SYNERGIES AS A RATIONALE FOR BUNDLING
Explicit synergies between lending and deposit creation are a powerful argument for
bundling of both activities. Kashyap et al. (2002) argue that economies of scale in liquidity
management create synergies between lending and deposit creation. They observe that
banks face unpredictable outflows of funds when depositors withdraw their deposits
and when borrowers draw down on their credit lines. To manage possible outflows,
commercial banks hold liquid assets, but this is costly because liquid assets have a low
yield. If deposit demand shocks and credit line demand shocks are not perfectly positively
correlated, then a bank providing both deposits and credit lines can manage liquidity
more cheaply than other financial intermediaries.
Central banks have a superior technology for providing a medium of exchange because
they do not need to hold liquid assets; they can simply print the money. Hence, in
principle they could crowd out commercial banks from the deposit business. As pointed
out by Piazzesi and Schneider (2020), unless the central bank also provides credit lines,
this will make credit line provisioning more expensive because the commercial banking
sector can no longer take advantage of the synergy between deposits and credit lines.
The main policy conclusion of the synergy rationale is not necessarily to rule out CBDC
but to condition how CBDC should be designed. By paying a lower interest rate or capping
holdings, the central bank should be able to balance the benefit of cheaper money creation
with the cost of higher credit line creation and improve welfare.
FRANCHISE VALUE AS A RATIONALE FOR BUNDLING
A second rationale for bundling lending and deposit taking within the banking sector
is to give banks market power in providing transaction services and so extract charter
rents from setting deposit interest rates below the policy rate. Although it may seem
counterintuitive to view bank rent extraction as desirable, the literature has suggested
several potential benefits to giving banks a positive franchise value.
1. Limiting excessive risk taking. Banking activities are difficult to monitor and
bank managers have limited liability for their losses. This has frequently led to
excessive risk taking. One way to discourage risk taking is to promise banks future
rents through their deposit franchise so that banks are more concerned about
bankruptcy. 67
2. Creating an incentive to stay within a regulatory perimeter. Banks within
the regulatory perimeter are heavily constrained and so have a permanent desire
to shift their activity to the less regulated shadow banking universe. Granting
private banks rents for being in the regulated sector counteracts this urge. Put
differently, the ‘carrot’ of being able to create deposit money is given to ensure that
banks are willing to subject themselves to the ‘stick’ in the form of supervision and
regulation (e.g. Gorton 2010).
3. Overcoming financing frictions. Banks might have superior investment

opportunities, but other frictions limit their ability to take advantage of these
opportunities without sufficient net worth. These superior opportunities might
arise because banks have better risk management and diversification technologies
(as in Brunnermeier and Sannikov 2018) or outright better lending opportunities
(as in Keister and Sanches 2021). Granting a deposit franchise increases bank net
worth and allows them to take advantage of the opportunities.
4. ‘Moral suasion’. Governments often force commercial banks to fund projects

with various political objectives (e.g. promoting home ownership) or simply to
hold government bonds to limit government’s funding costs. These rents are
an indirect compensation for funding these government objectives through the
backdoor (e.g. Calomiris and Haber 2014).
The rationales for banks franchise value leave one fundamental question unanswered.
Why should the rents, and hence the franchise value, be granted through deposit
monopoly rents? It is not obvious that the subsidy should be derived from bundling
with market power in deposit taking. Designing the subsidy through money creation is
especially suboptimal from a cyclical perspective. Subsidy should be higher in crisis times
and possibly negative in boom phases, when the above arguments bite less. However,
exactly the opposite occurs when subsidy is granted through deposit-taking market
power, measured as the difference between the policy rate and deposit interest rate. It is
low in a low interest rate environment and high in boom phases when interest rates are
high.
DISCIPLINING BANK RUN RATIONALE
Calomiris and Kahn (1991) and Diamond and Rajan (2001) argue that bundling of lending
and deposit taking might help discipline bank risk taking even if the banks are not
earning rents in the deposit market. Giving depositors the option to withdraw financing
and forcing liquidation disincentivises bank managers from engaging in malfeasance.
If the introduction of CBDC leads banks to finance using non-demandable long-term
liabilities, then investors lose this disciplinary power.
This theory is not uncontroversial. It is not clear why money-like claims are needed
68
rather than short-term debt which comes with rollover risk. More importantly, it is not
clear that a sufficient proportion of depositors have the information and skills to exert the
disciplining role by threatening to run. Bank supervisors of central banks have much more
detailed information about bank activities than a retail deposit holder. Most importantly,
the prevalence of deposit insurance across many countries mutes the channel.
POLICY IMPLICATIONS FOR CBDC DESIGN
Of course, CBDC and FinTech access to the central bank’s balance sheet can be designed
to make it more or less competitive to commercial banks. For example, CBDC would be
an inferior substitute for banking services if interest paid on CBDC is low or the amount
that can be held in CBDC is capped. Likewise, one can vary the attractiveness of digital
wallet providers to have access to the central bank balance sheet. This can affect the
competition for transaction service provision.
To answer these questions, one has to have a clear understanding of the various rationales
for bundling financial services and for granting special rents to commercial banks.
UNBUNDLING MONEY FROM FINTECH: CBDC AS LEGAL TENDER
So far, we have discussed bundling between money creation and lending. However, the
emerging FinTech industry is bundling token creation possibly in two ways: with a retail
platform and with open source contracting (‘smart contracting’) through a blockchain
ledger.1
1. Bundling a token platform with a retail platform: Lock-in due to exchange

rate fee. Retail platforms have an incentive to bundle the token with retail
services since tokens can create lock-in effects, which grant the retail platform
market power over their customers. One way to lock-in customers to a private
token platform is to restrict interoperability between currencies by charging an
exchange rate fee for swapping private tokens into another currency. This creates
a ‘virtuous cycle’ for the incumbent token platform where buyers want to purchase
using the tokens they received from their earlier sales on the platform, and
new sellers want to accept tokens because they know they will have high future
purchasing power.
1 This section is based on the formal analysis in Brunnermeier and Payne (2021).
Locking in customers discourages entry by a new token platform since it would
have to compensate the buyers and the sellers for switching to a new token. This
gives the incumbent platform market power over its customers. If the payment
platform is bundled with a retail platform, then it can use this market power to
chart mark-ups for physical goods transactions. 69
2. Bundling a payment token platform with a smart contracting. Connecting
tokens with smart contracting is a different form of bundling. Allowing FinTechs
to control their own currency ledger and write smart contracts brings benefits.
Consider an individual who wants to borrow against her future sales revenue. She
may face the classic problem of limited commitment. If, in addition, the potential
lender faces a limited enforceability problem, only a fraction of the borrower’s
revenue is collateralisable and hence borrowing is limited. A digital platform can
extend the loan and write an enforceable ‘smart’ forward contract. The borrower
advertises her product or service on the matching platform and whenever she
sells it, the tokens she receives are automatically transferred to the lender. This is
possible since the lending platform observes and controls the token ledger. Having
control over the token ledger allows the platform to lend to the borrower in the
first place.
POLICY DESIGNS
The two different types of bundling lead to different forms of currency non-interoperability
that have opposite welfare effects. Bundling the token and retail platforms leads to
platforms restricting interoperability through exchange rate fees in order to create
market power and charge markups on the retail platform. This type of ‘exchange non-
interoperability’ is typically socially undesirable unless competition across platforms is
so fierce that it stifles innovation in payment systems. Bundling the smart contracts with
a token platform restricts which currencies can be accepted as payment. This type of
‘non-interoperability of use’ is typically socially desirable because it helps increase the
collateralisation of future sale revenue across a retail sales network.
Optimal policy needs to understand what kind of interoperability it incentivises. We

consider two policies: outlawing exchange rate fees, and introducing CBDC as legal
tender.
1. Outlawing exchange rate fees. Enforcing interoperability by outlawing the

exchange rate fees would restore competition across tokens and eliminate
the lock-in effect. The incumbent platform constantly faces the threat of being
replaced by an entrant payment platform. Without exit fees on the payment
platforms, the bundled retail platform cannot benefit from the token lock-in effect.
2. CBDC as legal tender. Another way to enforce interoperability across various
tokens and public money is to make CBDC a legal tender. Any seller on any
platform would have to accept CBDC as well. However, such a legal requirement
would remove both the connection to the retail platform as well as the link to
70 the smart contract between payment platforms and borrowers. To see why the
CBDC as legal tender destroys the smart contract benefits, note that the borrower
can now sell her product for CBDC instead without the token platform noticing.
Consequently, the smart lending/forward contract can no longer be implemented.
IMPLICATIONS FOR MARKET STRUCTURE
Introducing CBDC as legal tender handicaps a (matching) platform market structure

and favours an intermediary arrangement. As discussed, legal tender CBDC undermines
the ability of matching platforms (B2B or C2C, such as eBay) to offer enforceable smart
contracts. In contrast, market structures in which market makers act as intermediaries
(like Amazon) can still offer enforceable lending contracts. In an intermediary market
structure, the borrower sells her product not directly to the buyer but to the intermediary,
who sells it to the ultimate buyer. This means an intermediary can enforce repayment,
even when the ultimate buyer pays with CBDC.
UNBUNDLING BEYOND CBDC
In this chapter, we have focused on unbundling digital money creation and lending
involving CBDC. There are arguably other important changes besides the introduction
of CBDC that are at least as important. Allowing non-banks, such as BigTech firms, to
enter the market will lead to innovations to a system that lacks dynamism compared
to other sectors in the economy. Also, other developments can foster competition
among existing banks as they reduce consumers’ switching costs. ‘Open banking’ that
will allow customers to transfer their data across banks is one prominent example.
These developments could end up having a larger impact on competitiveness than the
unbundling due to the introduction of CBDC.
REFERENCES
Brunnermeier, M and J Payne (2021), “Platform, Tokens, and Interoperability”, working

paper.
Brunnermeier, M and Y Sannikov (2016), “The I Theory of Money”, NBER Working Paper
22533.
Calomiris, C and S Haber (2014), Fragile by Design: The Political Origins of Banking
Crises & Scarce Credit, Princeton University Press.
Calomiris, C and C Kahn (1991), “The Role of Demandable Debt in Structuring Optimal
Banking Arrangements”, The American Review 81(3): 497–513.
Diamond, D and R Rajan (2001), “Liquidity Risk, Liquidity Creation, and Financial
Fragility: A Theory of Banking”, Journal of Political Economy 109(2): 287–327
71
Gorton, G (2010), Slapped by the Invisible Hand: The Panic of 2007, Oxford University
Press.
Kashyap, A, R Rajan, and J Stein (2002), “Banks as Liquidity Providers: An Explanation
for the Co-Existence of Lending and Deposit-Taking”, Journal of Finance 57(1): 33–73.
Keister, T and D Sanches (2021), “Should Central Banks Issue Digital Currency?”,
Working Paper 19-26, Federal Reserve Bank of Philadelphia.
Piazzesi, M and M Schneider (2020), “Credit Lines, bank deposits or CBDC? Competition
and efficiency in modern payment systems”, Working Paper.
ABOUT THE AUTHORS
Markus K. Brunnermeier is the Edwards S. Sanford Professor at Princeton University, a

faculty member of the Department of Economics and director of Princeton’s Bendheim
Center for Finance. He is or was a member of several advisory groups, including to
the European Systemic Risk Board, the IMF, the Federal Reserve of New York, the
Bundesbank and the U.S. Congressional Budget Office. He is also a research associate
at the National Bureau of Economic Research, a Research Fellow of CEPR and of
CESifo, a fellow of the Econometric Society, and a member of the Bellagio Group on the
International Economy. His research focuses on financial economics, macroeconomics
and monetary economics.
Jonathan Payne is an Assistant Professor of Economics at Princeton University. His

research studies questions in finance, banking, and macroeconomics. He earned his
Ph.D. from New York University.
CHAPTER 10
How will digital money impact the 73
international monetary system?
HOW WILL DIGITAL MONEY IMPACT THE INTERNATIONAL MONETARY SYSTEM? | ADRIAN AND MANCINI-GRIFFOLI
Tobias Adrian and Tommaso Mancini-Griffoli
International Monetary Fund
How will digital technologies transform the international monetary system? A

profound transformation is already under way. From private sector-led innovations like
cryptoassets and stablecoins to public-sector-designed programmes like the Bahamas’
issuance of the Sand Dollar and China’s experiment with a ‘digital yuan’, digitalisation is
changing our understanding of what ‘money’ is and how it operates.
This chapter is focused primarily on central bank digital currencies (CBDCs), which
are now being explored by over 70% of the IMF’s 190 member countries. Approaches
differ according to each country’s particular circumstances, with most still cautiously
analysing the policy motive for issuance and a few actively prototyping various options
in safe ‘sandbox’ environments or launching live pilot programmes. Central bankers
everywhere are closely following the experience in the Bahamas, trying to discern the
lessons from the actual issuance of the Sand Dollar.
We can already see that there are many potential benefits from CBDC – along with
several likely risks. Let’s take a look at the top three benefits and the top three risks, and
then consider how those risks can be reduced.
Let’s start with the benefits.
• First, CBDC has the potential to make payment systems more cost-effective,
competitive and resilient.
° Due to its digital nature, CBDC could reduce the cost of managing physical cash
– which can be substantial, especially in countries with a vast land mass or many
islands that are widely dispersed.
° By offering a low-cost alternative, CBDC can help discipline payment markets,

which are often highly concentrated.
° CBDC could also improve the resilience of payment systems, through the
establishment of an alternate decentralised platform.
• Second, in countries that have large numbers of people who are ‘unbanked’, CBDC
could help enhance financial inclusion, especially if it is paired with a digital
identification system. Access to payments is often the first step towards greater
participation in the financial system. Not only do the unbanked gain a safe place for
74 their savings, but the digital availability of micro-payment data offers a way to gain
access to credit and other financial services.
• Third, CBDC can be leveraged to improve cross-border payments, which are

currently often slow, costly, opaque and not easily accessible. Cross-border
payments largely rely on multi-layered correspondent banking relationships, which
create long payment chains.
CBDCs could instead be traded more directly to the extent that they share common
technical standards, and data and compliance requirements. They could thus benefit
from a common platform to allow for cross-border trading between intermediaries or
end-users directly.
The IMF is collaborating with the Bank for International Settlements (BIS), the
Committee on Payments and Market Infrastructures, and the Financial Stability Board
to establish relevant guidelines.
Now, let’s turn to the risks.
The first risk is potential banking sector disintermediation. Deposits could be withdrawn,
perhaps abruptly, from commercial banks if people decide to hold CBDC in significant
volume. Banks would then have to raise interest rates on deposits to retain customers, or
they would have to offer better payment services. Banks could experience a compression
of margins, or they could have to charge higher interest rates on loans. The result could
be a contraction in credit to the economy.
Second is the potential reputational risk for central banks. Offering CBDC requires
central banks to be active in, or at least oversee, several steps of the payments value
chain (including interfacing with customers, building front-end wallets, picking and
maintaining technology, monitoring transactions, and being responsible for anti-money-
laundering processes). The failure to satisfy any of these functions – whether due to
technological glitches, cyber-attacks, or simply human error – could undermine public
faith in the central bank’s operations.
Third are the macro-financial risks that can occur with the cross-border use of CBDC. As
costs to hold, and transact in, foreign currency decrease, countries with weak institutions,
high inflation and volatile exchange rates could see an increase in currency substitution.
In most cases, the risks from CBDC can be restrained through appropriate design. For
instance:
• CBDC holdings could offer a lower rate of interest than the policy rate – if they
provide any interest at all. Alternatively, holdings could be taxed or capped, with 75
surplus funds swept into bank accounts every night.
• Similarly, transaction limits could be imposed, helping reduce the risk of the
disintermediation of banks.
• CBDC could also be distributed through existing financial institutions, using the
customer onboarding processes that are already in place.
• In addition, countries whose central banks issue CBDC could restrain ‘currency
substitution’ by limiting the holdings by non-citizens.
Looking beyond CBDC specifically, questions naturally arise about how cryptoassets and
stablecoins are changing the global financial system. The IMF, along with the BIS and
other research centres, is studying that matter closely, trying to foresee how the optimal
monetary system of the future would operate.
Let’s first examine some ways that cryptoassets and stablecoins are unlike CBDC.
Cryptoassets are digital representations of value, are privately issued (rather than
issued by sovereign entities), are secured by cryptography, and leverage decentralized
ledger technology (DLT) which allows for peer-to-peer transactions without necessarily
going through an intermediary. Cryptoassets, like bitcoin, are not backed by official
government assets. Moreover, as we have seen in recent months, cryptoassets have very
volatile prices.
Stablecoins share many of the features of cryptoassets, but are typically issued by a legal
entity. They attempt to offer price stability by linking their value to a fixed asset – such as
a fiat currency like the US dollar or commodities like gold.
The share of cryptoassets and stablecoins in relation to the money supply (so-called M1)
is currently small. Thus, their impact on the monetary and financial system is – at this
point – limited.
However, the adoption and use of cryptoassets and stablecoins could increase rapidly.
Cryptoassets, for one, are increasingly becoming an attractive investment asset, including
for institutional investors. Meanwhile, stablecoins have the potential to become global if
issued by BigTech firms with large existing user bases that span countries.
If wide adoption does indeed occur, cryptoassets and stablecoins could have significant
implications for the international monetary system. That could introduce a wide range
of serious concerns:
• Widespread ‘currency substitution’ would undermine governments’ control of
monetary policy and would have an impact on domestic financial conditions.
• Capital flow management measures (CFMs), which are used by the majority of IMF
member countries, could be more easily circumvented. Independent exchange rate
76
regimes could be harder to maintain.
• Capital-flow volatility could increase, as could gross foreign asset positions. Such
factors could trigger balance-of-payments problems.
• Global stablecoins in their own denomination raise significant new risks, including
the lack of available safe assets and a credible safety net.
• The risk of fragmentation into regions, each with their own payment systems, is
stark, as is the risk of a global ‘digital divide’ between countries depending on their
access to new payment technologies and their capacity to leverage and regulate
them.
Amid the uncertainties introduced by cryptoassets and stablecoins, let’s recall a few
basic principles useful for policymaking.
The international monetary system must continue to rely on rules and conventions
covering, for instance, monetary and exchange rate arrangements, cross-border
payments for capital account transactions, and capital flows and related management
measures. The system must continue to rely on mechanisms allowing for effective and
timely balance-of-payments adjustments and a global safety net (including access to
financing from the IMF). And the system must continue to rely on robust institutions
that ensure that rules and mechanisms will be enforced.
Moreover, there is an unshakeable commitment that the international monetary system

must remain stable and efficient. Digital money must be regulated, designed and
provided such that countries maintain control over monetary policy, financial conditions,
capital account openness and foreign exchange regimes. Payment systems must grow
increasingly integrated – not fragmented – and must work for all countries, to avoid a
‘digital divide’. Moreover, reserve-currency configurations and backstops must evolve
smoothly.
That brings us to the question of how authorities should approach cryptocurrencies and
stablecoins – inevitably, with the stakes so high for international financial stability, with
determination and clarity, and a strong dose of scepticism.
Some might be tempted to ask: “What would central banks need to do to develop a global
monetary system based on CBDC?” But posing the question that way might be getting
the reasoning backwards. Instead, CBDC should be designed such that it helps support a
stable and efficient international monetary system.
As they consider the rewards and risks of CBDC, central banks are surely keeping some
fundamental factors in mind.
• They should leverage CBDC to improve connections between countries’ payment

systems, while avoiding fragmentation in cross-border payments. 77
• The cross-border use of CBDC can potentially solve many of the current ‘pain
points’ of cross-border payments.
• Under some conditions, CBDC can also foster financial inclusion – helping bring
cross-border payments to the unbanked, and helping reduce the cost of sending
remittances.
• The impact of CBDC could be direct, but it could also be indirect. The presence of
cross-border CBDC will induce other payment providers to improve services and
lower costs.
Cooperation among central banks will be pivotal in building CBDC with features that
help contain spillovers and help facilitate backstops. For example:
• To curb currency substitution, countries that decide to issue CBDC could explore
the option of limiting CBDC transactions and holdings for foreigners. Or they could
allow foreign countries to introduce such limits on their own territory.
• CFMs, which might involve restrictions on certain cross-border transactions, could

be built directly into the CBDC specification.
• The programmability of CBDC could also be used, in a positive way, to facilitate the
regional pooling and sharing of reserves, and their disbursement.
As for ‘private digital cash substitutes’, we do not think that developing alluring CBDC
to ‘crowd out’ those substitutes is the answer. Instead, privately issued digital money will
need to be regulated appropriately.
Let us remember that most of the money that we use today is issued by the private sector
– in the form of commercial bank deposits. This form of money has been innovative,
and it continues to serve users well. Moreover, it is safe because issuers are very closely
supervised, they benefit from government backstops and they are required to adhere to
clear legal and regulatory frameworks.
Those same factors must also hold firm for private issuers of digital money. Clear legal
frameworks must be developed to determine whether they are, for example, deposits,
securities or commodities. Clear regulations must be enacted so these forms of money
fully address risks to financial stability, financial integrity, consumer protection and
market contestability.
Once those rules are clearly written, some providers will surely drop out of the market
– but others will remain, and they will exist side-by-side with CBDC. We should not see
the future as an ‘either-or decision’ — between either CBDC or privately issued forms of
money. The two will probably coexist, wherever CBDC eventually exists.
78
Consider, in addition, that private solutions can build functionality on top of CBDC, and
potentially can even receive CBDC in exchange for a private payment token. The future
is likely to see a continuum that includes various forms of money – just as we see today
within the confines of a clear legal and regulatory perimeter.
We are at an exciting moment in the evolution of currencies – and indeed, in the

evolution of our very concept of what ‘money’ is and what benefits ‘money’ should deliver.
If we design digital currencies with caution and with precision – and if we frame their
adoption within legal and regulatory systems that maximise their benefits and minimise
their risks – we could be on the verge of an era that fulfils the promise of transformation.
ABOUT THE AUTHORS
Tobias Adrian is the Financial Counsellor and Director of the Monetary and Capital
Markets Department of the International Monetary Fund (IMF). In this capacity, he
leads the IMF’s work on financial sector surveillance, monetary and macroprudential
policies, financial regulation, bank resolution, debt management, and capital markets.
He also oversees capacity building activities in IMF member countries with regard to
the supervision and regulation of financial systems, bank resolution, central banking,
monetary and exchange rate regimes, and debt management. Prior to joining the IMF,
Mr. Adrian was a Senior Vice President of the Federal Reserve Bank of New York and
the Associate Director of the Research and Statistics Group. Mr. Adrian has published
extensively in economics and finance journals. His research spans asset pricing,
financial institutions, monetary policy, and financial stability, with a focus on aggregate
consequences of capital markets developments. He has taught at Princeton University
and New York University and is member of the editorial boards of the International
Journal of Central Banking and the Annual Review of Financial Economics. Mr. Adrian
holds a Ph.D. from the Massachusetts Institute of Technology in Economics, an MSc
from the London School of Economics in Econometrics and Mathematical Economics,
a Diplom from Goethe University Frankfurt and a Maîtrise from Dauphine University
Paris.
Tommaso Mancini-Griffoli is the Division Chief of the Payments, Currencies, and

Infrastructure division at the International Monetary Fund (IMF). His work focuses
on digital currencies and payments, monetary policy, foreign exchange interventions,
modelling and forecasting, and central banking operations and communication. He has
advised country authorities and published widely on these topics. Prior to joining the
IMF, Mr. Mancini-Griffoli was a senior economist in the Research and Monetary Policy
Division of the Swiss National Bank, where he advised the Board on quarterly monetary
policy decisions. Mr. Mancini-Griffoli spent prior years in the private sector, at Goldman
Sachs, the Boston Consulting Group, and technology startups in the Silicon Valley. He
holds a PhD from the Graduate Institute in Geneva, and prior degrees from the London
School of Economics and Stanford University.
79
CHAPTER 11
Stablecoins as alternatives for central 81
bank digital currency?
STABLECOINS AS ALTERNATIVES FOR CENTRAL BANK DIGITAL CURRENCY? | VANDEWEYER

Quentin Vandeweyer
University of Chicago Booth School of Business
Stablecoins are cryptocurrencies designed by private individuals or institutions to

remain stable vis-à-vis an official currency. These schemes have gained popularity in the
last couple of years and become a core element in the emergence of decentralised finance
(DeFi) applications. As central banks are considering the opportunity to launch their own
digital currencies (CBDC), a serious cost-analysis benefit ought to acknowledge these
private initiatives as alternatives, but also potentially as complement to CBDCs. In this
chapter, I offer a subjective and partial summary of the state of the debate, drawing from
my readings and discussions with academics, policymakers and market practitioners.
While most opinions that I came across were more nuanced, I organise these positions
across three polarised ideal types. A first position stresses the financial stability risk
of unregulated stablecoins and highlights central banks’ comparative advantage in
providing final settlement. A second position is sceptical about government leading
initiatives to drive innovation and would like to restrain its footprint to allow space
for the development of welfare-enhancing new private payment technologies such as
stablecoins. A third position highlights the potential for synergies between public CBDC
and private stablecoins within two-tiered systems, which would allow each technology’s
comparative advantages to be revamped.
It is worth starting this discussion by investigating the intellectual roots of these

positions within a comparable controversy two centuries ago in the United Kingdom
on the governance of a then-new innovative technology with many similarities to
today’s stablecoins: the banknote. While it is difficult today to imagine banknotes as
a controversial and revolutionary technology, we should remember that the usage of
banknotes beyond the close-knit circle of merchants only started around the end of the
17th century in Europe. This development was made possible by technological advances
such as signatures and holography, as well as innovations in the British legal system such
as the expansion of merchant law to the Common Law.
By the 19th century, British economists had gained enough knowledge from a century of
mixed-success experiments with banknotes to form an opinion on how this technology
should be regulated. On the one hand, proponents of the ‘Banking School’, such as
Adam Smith, Thomas Tooke, and James William Gilbart, were advocating for a liberal
banking policy allowing charted institutions to issue banknotes at will; arguing that
gold convertibility should be sufficient to avoid over-issuance and preserve pecuniary
stability (Giannini 2011). These authors reached this conclusion while having in mind the
success of the Scottish free banking system and the multiple failures of earlier initiatives
involving the state, such as John Law’s famous venture with the King of France. The
82 doctrine would be summarised by Adam Smith in his Wealth of Nations:
“If bankers are restrained from issuing any circulating banknotes, or notes
payable to the bearer, for less than a certain sum; and if they are subjected to the
obligation of an immediate and unconditional payment of such banknotes as soon
as they are presented, their trade may, with safety to the public, be rendered in all
other respects perfectly free.”
An important part of their argument was that banks’ ability to extend the currency was
needed to allow the British economy to pursue its industrial revolution in a context of a
secular deflation driven by the natural scarcity of gold.
On the other side of the debate, proponents of the ‘Currency School’, with David Ricardo
and Henry Thorton as prominent members, were worried about inflationary and
financial stability risks stemming from unregulated banknote issuance. As explained by
Curzio Giannini (2011):
“While the value of metallic money was guaranteed by its content, the banknote
was a debt payable to the bearer, its value depending on the convertibility clause
being respected. Since banknotes could change hands any number of times before
being converted back into metallic money, there was the risk that the issuer could
behave imprudently, if not fraudulently, safe in the knowledge that the banknote
had uncertain legal status and, in the more developed legal systems, was protected
by the limited liability regime.”
In the face of the many country bank bankruptcies of the 1810s and 1820s, Thorton argued
that, considering that banknotes would be used as a substitute for coins in monetary
transactions, the instruments should be fully backed by existing gold.
The dispute was eventually resolved in favour of the Currency School in the Bank Charter
Act of 1844, which would limit the ability of country banks to issue additional banknotes
and create a fixed ratio between the gold reserves held by the Bank of England and the
notes that the Bank was authorised to issue. The legislation also effectively granted the
Bank of England a monopoly over note issuance. This monopoly model would eventually
be adopted almost universally. However, the victory for the Currency School was
short-lived as a new disrupting payment technology arose: bank deposits transferable
through cheques. Bank deposits took over from banknotes to become the fastest growing
development in banking for most of the end of the 19th century and all of the 20th century
– a development on which proponents of the narrow-banking and ‘bill only’ doctrines
never managed to fully impose their views that deposits should be entirely backed by
currency and short-term commercial papers, respectively.
Today, stablecoins enter the picture as a new payment technology that shares
characteristics with both banknotes and deposits and blurs the distinction between
the two. As with bank deposits, stablecoins are digital assets that are recorded in the
accounting system of an institution or decentralised organisation. The decentralised
nature of this accounting system, referred to as a distributed ledger technology (DLT), is 83
a key technological improvement. As with banknotes, stablecoins are instruments that
are instantaneously transferable with certainty over finality of the transfer. Moreover, in

most schemes (although not all), stablecoins are redeemable on demand against either
cash in the pegged currency or any other asset that is held as collateral to back up the
value of the stablecoin. In practice, stablecoin schemes vary widely when it comes to their
design and, in particular, their pegging mechanism. Some stablecoins, such as Tether or
USDC, are supported by institutions with a legal existence that holds cash reserve assets
as collateral to ensure convertibility. Within this category, institutions differ on what they
consider as cash reserves. For instance, while USDC keeps its cash holdings as deposits in
multiple banks, thereby following a narrow-banking approach, Tether appears to follow
the more liberal ‘bill only’ principle by holding assets of short maturities but subject to
various levels of credit risk such as corporate commercial papers.
Another class of stablecoins, usually referred to as crypto-collateralised or algorithmic

stablecoins,1 has recently been gaining in popularity. In terms of innovation, algorithmic
stablecoins go further when compared to the ones cited above by having their whole
balance sheet exist entirely on some decentralised ledger. This property confers on the
designers of the scheme the ability to program the pegging strategy in a transparent
and decentralised manner. A stablecoin called DAI, for instance, allows any user of a
subset of cryptoassets living on the Ethereum platform to pledge these cryptoassets
as collateral in a virtual bank referred to as a collateralised debt position (CDP). Users
may withdraw DAIs from their CDP up to a certain limit and then sell these to other
users; thereby effectively leveraging their positions in the cryptoasset , such as Ethereum.
While the value of these cryptoassets is typically highly volatile – this volatility being one
raison d’être of the stablecoins – the peg is maintained through a complex set of safety
mechanisms, including the automatic liquidation of the CDP when its collateralisation
ratio (the inverse of the leverage) falls below a certain threshold. The advantages of
algorithmic stablecoins over other stablecoin schemes with collateral assets outside the
DLT reside in the complete transparency of both their (algorithmic) procedures and
(perfectly observable in real-time) accounting taking place on the ledger. On this ground,
these stablecoins are closer to the philosophy that initially motivated the creation of the
first cryptocurrencies such as bitcoin. They combine cryptography and mechanism design
to create a payment technology without having to rely on trust in existing institutions.
1 The term ‘algorithmic stablecoin’ is sometimes also used to refer exclusively to schemes that do not use any asset as
collateral but rather rely on a dynamic supply adjustment to maintain the peg. I find this characterisation misleading and
instead use ‘algorithmic stablecoin’ to denote all stablecoins that exist entirely on some distributed ledger.
On the flip side, the risks of algorithmic stablecoins are related to the inherent volatility
of assets held as collateral. In particular, there is currently no possibility for algorithmic
schemes to directly hold central bank money in the DLT.
Unlike their counterparts of the past, modern central banks do not have to maintain
84
any parity with a unit of account. Their liabilities are the unit of account – a property
that puts central banks in a unique position as providers of means of payment. Until
very recently, a consensus had emerged that the best design for the system is two-tiered.
According to this arrangement, the central bank ensures price and financial stability by
providing just the right amount of currency elasticity, while the private banking system
remains responsible for providing retail payment services. The emergence of distributed
ledger technology has since pushed central banks to question this consensus and consider
launching CBDCs that retail customers would be able to hold more or less directly.
The intellectual descendants of the Currency School see a maximalist CBDC design as a
way for central banks to preserve their monopoly over currency issuance in the face of the
rapid development of stablecoins and other cryptocurrencies. In particular, launching a
CBDC would help revamp the benefits of the DLT technology2 while crowding out run-
prone stablecoins and other volatile cryptocurrencies, thereby improving on financial
stability and monetary resilience. Meanwhile, proponents of the (crypto-)Banking School
argue that stablecoins are still in their infancy, with large unrealised potentials. In
particular, it is still unclear what applications will emerge from booming DeFi initiatives.
If central banks and governments were to act too promptly, they might undermine
potential new innovations with possibly largely negative consequences for consumer
welfare and the ability of a given country to maintain its leadership in a growing industry.
Alternatively, a possible evolution of the system could be found in a renewed two-

tier system centred around some form of CBDC as a modernisation and extension of
the current interbank Fedwire system open to a wide range of non-bank institutions.
Through this connection to the central bank, private stablecoin schemes – as well as
other retail payment companies – would benefit from the ability to directly hold central
bank liquidity as reserves. Just as for depository institutions, the counterpart for this
access should be more stringent regulation, allowing for healthy competition on a level
playing field with other institutions providing payment services. Within this perspective,
CBDCs and stablecoins would act synergistically to improve both financial stability and
the payment system.
Overall, the development of stablecoins, and more generally cryptocurrencies, is part

of a secular mutation of the financial system away from the traditional banking sector
following waves of technological changes. This trend needs to be monitored and central
banking practices adapted to safeguard the stability of the financial system. The recent
2 Discussed elsewhere in this chapter and potentially including financial inclusion, cost-efficiency and security of the
payment system.
introduction of the standing repo and reverse repo facilities by the Fed are steps in
this direction, providing some of these ‘shadow banking’ institutions with access to its
balance sheet. A two-tier CBDC could be an opportunity for central banks to go beyond
these punctual adjustments and create infrastructures allowing multiple institutions
to connect to their liquidity provision services, and to flexibly adapt to new unforeseen 85
evolutions of the payment system without having to take responsibility for its entire
functioning. An important and challenging step in this endeavour would be the overhaul

of the financial regulatory framework.
REFERENCES
Giannini, C (2011), The Age of Central Banks, Edward Elgar Publishing.
Smith, A (2002) The Wealth of Nations, Bibliomania.com.
ABOUT THE AUTHOR
Quentin Vandeweyer is an Assistant Professor of Finance at the University of Chicago

Booth School of Business. His research interests are in macro-finance, asset pricing, and
monetary economics. In particular, his recent research focuses on understanding how
financial innovation and regulation drive the development of financial institutions and
stability. Vandeweyer holds a Ph.D. in economics from Sciences Po Paris and an MSc in
economics from Ecole Polytechnique. In 2020, he received the AQR Top Graduate Award
at CBS. Prior to joining Booth, Vandeweyer worked as an economist in the Research
Directorate of the European Central Bank.
PART II
PROJECTS
CHAPTER 12
An overview of the Bank of Canada 89
CBDC project
AN OVERVIEW OF THE BANK OF CANADA CBDC PROJECT | CHIU AND RIVADENEYRA

Jonathan Chiu and Francisco Rivadeneyra1
Bank of Canada
INTRODUCTION
Most central banks around the world are pondering the motivations for issuing a central
bank digital currency as well as the design and the implications of issuing it (Boar and
Wehrli 2021). The Bank of Canada has been a pioneer in such exploratory work, starting
in 2012 with a targeted economic research agenda on electronic money and payments,
and later on with ‘hands on’ technical experimentation with its Jasper projects (Chapman
et al. 2017).
As academic and policy discussions about CBDCs accelerated, the Bank of Canada
published in 2020 its contingency plan which articulated the public policy objectives that
could motivate the issuance of a Canadian CBDC and the scenarios under which issuance
could be warranted (Bank of Canada 2020, Lane 2020). The Bank does not see a need
to issue a CBDC at this moment, but given that issuance would likely require years of
careful evaluation and planning, the Bank is building the capabilities to be able to do
so. The rest of the introduction describes the Bank’s contingency approach, while the
following sections discuss the Bank’s research and policy work aimed at assessing the
opportunities and risks of CBDCs.
Objectives of public money

The question underlying the debate about CBDC is: What is the role of public money in
a modern monetary system? A natural starting point is to understand the role that cash
plays today. The contingency plan of the Bank identified the following roles: (1) providing
a risk-free store of value and low-cost medium of exchange; (2) providing universal access
to a basic payment instrument; (3) helping protect privacy in payments; (4) adding
resilience to the payments ecosystem; (5) promoting competition and efficiency; and (6)
underpinning monetary sovereignty.
1 The views expressed in this paper are those of the authors and not necessarily the views of the Bank of Canada.
In Canada, cash is still frequently used for transactions, particularly for lower value and
face-to-face ones. But as the use of cash for point-of-sale transactions continues to fall
and new forms of private digital money enter the marketplace, the question of what role
public money should play becomes more salient. This is the context in which the Bank of
90 Canada is evaluating the risks and opportunities of a CBDC.
Issuance scenarios
The Bank of Canada has articulated two scenarios under which the issuance of CBDC
might be desirable. The first is a situation where cash is not widely used or accepted for a
wide range of transactions, especially if this situation leads to adverse consequences for
disadvantaged groups. In Canada, cash remains almost universally accepted but usage at
the point of sale has been falling significantly (Huynh et al. 2019).
The cashless scenario is concerning largely for its distributional effects: while a vast
majority of Canadians might willingly move away from cash altogether and towards
exclusively electronic means of payments, some groups in society might not have the
option to make that transition. The inability to transition to electronic means of payments
could be, among other reasons, a function of a group’s socioeconomic factors such as
income or geographical location.
The second scenario envisions a situation where one or more alternative digital
currencies – public or private – become widely adopted in Canada, threatening monetary
sovereignty. In this scenario, the alternative digital currency would be denominated in
a unit of account different to the Canadian dollar and would use settlement systems out
of reach for Canadian regulators. At the moment, however, the likelihood of widespread
adoption of any alternative digital currencies seems small.
The Bank has stated that the two scenarios described here are not meant to be an
exhaustive list of all circumstances under which the Bank would consider issuing a digital
currency. Further, the scenarios are not strict triggers for issuance as wider risks and
alternative policies would have to be considered even if these scenarios had materialized.
ASSESSMENT OF THE OPPORTUNITIES
Monetary policy
In academic circles, one of the most discussed motivations for a CBDC is its potential
to improve monetary policy (Bordo and Levin 2017). The Bank of Canada has examined
this motivation and concluded that while in theory an interest-bearing and universally
accessible CBDC could be a versatile policy instrument – lowering the effective lower
bound and allowing the policy interest rate to be contingent on balances – the expected
benefits might be unlikely to be realised in practice (Davoodalhosseini et al. 2020). This
scepticism arises partly from implementation challenges. First, cash would need to be
removed from circulation. The Bank in fact has stated the opposite policy: it intends to
support cash for as long as Canadians demand it. Second, if the CBDC system is expected
to allow off-line payments, the interest-bearing capability brings security challenges
(Shah et al. 2020). Off-line payments might be important for resilience and universal
access.
91
Universal access

One way to understand a monetary system is as a public good that provides the basis for
exchange in a market economy. Today, this public good is provided by a mix of public
and private payment instruments (cash, debit and credit cards, etc.). As technological
change shifts the boundary between the private and public components in the monetary
system (Kahn et al. 2020a), some groups in society might be at risk of exclusion from
this public good, for example because cash is no longer usable for important economic
transactions or because the cost or features of new electronic payments do not consider
some groups in society. Therefore, maintaining universal access to a safe and low-cost
means of payments is becoming a possible motivation for CBDC (Lane 2021). Because
a central bank does not have a profit motive, it can credibly fulfil the universal access
objective by appropriately designing and distributing its digital currency.
To function as a universally accessible means of payment, CBDC would require features

that consider (to the extent allowed by technology and costs) the different needs people
of all ages, different physical abilities and income levels, the circumstances of individuals
without bank accounts or an established credit history, or without reliable network
coverage or during power outages (Mediema et al. 2020). To understand the needs of all
users, the Bank routinely conducts method-of-payment surveys (Henry et al. 2017) and is
studying the needs of different stakeholders, for example First Nations (Chen et al. 2021).
Privacy
The protection of privacy in payments has gained attention as an important benefit of
cash, particularly now that the ability to collect large amounts of payments data favours
business models that can monetise these data (Chiu and Koeppl 2020). Private payment
providers routinely use payments data to predict behaviour for marketing purposes or
influence behaviour. Similarly, corporations with data-intensive business models, such as
Facebook, are seeking to expand into payments.
Recent research has highlighted the public good nature of privacy in payments, which
is at risk of being underprovided by the private sector (Garratt and Van Oordt 2021).
The potential for externalities might warrant certain interventions like regulations on
payment providers or offering a privacy-preserving CBDC. As the central bank does not
have an incentive to sell or exploit the payments data, a CBDC could, for example, prevent
situations where data revealed by one person could be used to make inferences about the
purchasing habits of other individuals with similar profiles.
A CBDC system could provide higher levels of privacy than some commercial products
(Darbha and Arora 2020). It has also been suggested that some new cryptographic
techniques open up the possibility for the central bank to preserve users’ privacy while
being compliant with current regulation, for example by using a technique called zero-
92 knowledge proofs that allow a claim about the data to be proven without revealing the
data themselves. These techniques, however, are still in the early stages of development
and will need a few years to be mature for a national system. Other techniques imply
impractical operational costs or complexity that could mask vulnerabilities.
The Bank of Canada is developing principles to guide the choice of the appropriate level
of privacy in any future CBDC system. These principles should recognize that privacy
must be provided transparently and credibly, and in relation to two different types of
actors: private sector (e.g. wallet providers, payment processors, merchants) and public
sectors (the Bank itself and law enforcement).
Competition and innovation

The discussion about the possible impact of CBDC on competition and innovation in the
market for payments services is in its early stages. The Bank of Canada does not have
a mandate in these areas, but understanding the potential effects of any future CBDC
is nevertheless important. One important consideration is that to be successful as a
product, a CBDC would need to compete with other payment platforms for consumers
and merchants; it might also need some degree of interoperability with its competitors.
Most Canadians already have multiple digital payments options offered by the private
sector, but this does not mean that they are, or will remain, as competitive or innovative
as they could be. Our research suggests that by offering an alternative to private payment
options, a CBDC could help promote payments competition and efficiency (Chiu et al.
2021, Usher et al. 2021).
As in other jurisdictions, the digitalisation of the Canadian economy (online commerce

and payments) and the convergence of digital platforms and financial services (offering
stablecoins and other means of payments) is increasing the risk that the current or
proposed payments architecture might not be sufficiently supportive of financial stability
or economic efficiency, or sufficiently accessible or private. For example, competition
in markets where digital platforms become dominant could be impaired if their scale
and ability to monetise data allow platforms to exert market power on consumers
and foreclose competitors. Further, growth in online commerce (where cash is not an
option) and customers choosing electronic payments at physical locations (driving some
merchants to not accept cash altogether) could provide more scope for incumbents to
exert market power.
Another aspect of competition is with respect to alternative digital currencies. A
CBDC could, at least under certain circumstances, help to protect Canada’s monetary
sovereignty and reinforce the use of the Canadian dollar in the face of growing adoption
of alternative units of account like private digital currencies, stablecoins and foreign
CBDCs. 93
Research on the relationship between CBDC and innovation is also in its early stages;

most has been asking if CBDC has a role to play in the ecosystem of smart contracts
and machine-to-machine payments. Smart contracts – a method to efficiently create
and execute contingent contracts usually with distributed ledgers– seem to have large
applicability in many economic activities. The underlying question is if there are any
market failures that a CBDC could prevent, for example by creating a bridge between
different distributed ledgers that otherwise would not be interoperable (Townsend 2021).
As mentioned in our companion chapter in the first part of this book, there is a need
for research that provides policymakers with an assessment of the potential effects of
CBDC on the industrial organisation of the payments market, especially models that
help evaluate between the choice of features of the CBDC product and platform, and the
different distribution channels.
Offline payments
The resilience of cash is one of its distinguishing characteristics: it works during power
outages, in remote locations without network or power coverage. Offline payments with
digital instruments have always presented security challenges, however new research
is exploring novel features that, in combination with other institutional features, could
make CBDC more convenient than cash. Kahn et al. (2021) analysed the possibility
of introducing an expiry date for offline balances which could automate personal loss
recovery.
One practical way to balance the benefit of offline capabilities with the security risks
would be to have ‘registered’ and ‘unregistered’ versions of CBDC. These would differ in
the identification requirements of the users and in the balance and transfer limits. An
unregistered version could be a device that can work with other devices to transfer a
limited amount of value. The Bank is exploring approaches such as this.
ASSESSMENT OF THE RISKS
Financial stability
One of the main concerns of policymakers is that, by competing with bank deposits as
a payment instrument, a CBDC could increase commercial banks’ funding costs and
reduce bank deposits and loans, leading to bank disintermediation. The literature is
currently exploring the channels through which CBDC could affect bank lending, and
not surprising this depends greatly on the assumptions about the market structure. Our
research suggests that introducing a CBDC does not necessarily lead to disintermediation
if banks have market power in the deposit market (Chiu et al. 2019).
Empirical work focusing on Canadian banks does not suggest that the first impact of a
94
CBDC on their liquidity and profitability would result in material financial stability risks
(Garcia et al. 2020, Gorelova et al. forthcoming). For example, in the case of the six largest
banks and the medium-sized banks, the study by Garcia et al. (2020) concluded that
their regulatory liquidity ratios would remain above thresholds under most scenarios.
Similarly, the return on equity of the six largest banks would decline by less than one
percentage point.
While these initial results are encouraging, there are still important gaps in the literature
that need to be investigated, for example what would be the effect of CBDC on the
payments business of banks and how would CBDC affect the flight of deposits in a crisis
(see our companion chapter in the first part of this book).
The impact of CBDC on banks, financial stability and the payments ecosystem in general
hinge to a large extent on the level of adoption and usage that CBDC would attain. Huynh
et al. (2020) and Li (2021) have estimated adoption and usage rates based on assumptions
of the features of the instrument (for example, cash-like or deposit-like), suggesting that
usage costs and design of a CBDC would be crucial for its success.
Compliance risks
There is a risk that CBDC could be used for some illicit activities, just as cash and
electronic transfers are used today. An important policy and design question is how to
balance the demand for privacy and other features with compliance with all applicable
laws and regulations. Compliance extends to privacy laws, know-your-customer, anti-
money laundering, and combating the financing of terrorism regulations. Compliance
considerations would impose constraints on some of the potential features of a CBDC,
like privacy and the size of balances or transactions that could be carried out. Therefore,
the Bank is exploring in particular what is the actual range of options available, taking as
given Canadian privacy and compliance laws and regulations.
Security risks
As a widely available and electronic means of payments, CBDC would be faced with
security risks like cyber and consumer protection risks (Minwalla 2020, Kahn et al.
2020b). The economics of the security risks of a CBDC and cash are different because
of lower entry costs of attempting to find vulnerabilities in the system and a potentially
higher reward in a national system (Kahn et al. 2020a). An approach here is to find the
distribution of responsibilities between the different participants in the ecosystem (the
Bank, distributors, and users themselves) that create the incentives to manage the risks
appropriately. This remains an important area of technical research.
CONCLUSIONS
The decision to issue a CBDC belongs ultimately to Canadians and their elected
representatives, and would require wide consultations with stakeholders and the public.
This chapter describes some of the economic and technical research that the Bank of 95
Canada is conducting as part of the discussions about the motivations, design, and
implications of a Canadian CBDC. The work ahead will be challenging but exciting for

researchers, technologists, and policymakers.
REFERENCES
Bank of Canada (2020), “Contingency Planning for a Central Bank Digital Currency”.
Boar, C and A Wehrli (2021), “Ready, steady, go? - Results of the third BIS survey on
central bank digital currency”, BIS Working Paper.
Bordo, M D and A T Levin (2017), “Central bank digital currency and the future of
monetary policy”, NBER Working Paper No. 23711.
Chapman, J, R Garratt, S Hendry, A McCormack and W McMahon (2017), “Project

Jasper: Are distributed wholesale payment systems feasible yet?”, Bank of Canada
Financial System Review 59.
Chen, H, W Engert, K Huynh and D O’Habib (2021), “An Exploration of First Nations
Reserves and Access to Cash”, Bank of Canada Staff Discussion Paper 2021-8.
Chiu, J and T Koeppl (2020), “Payments and the D(ata) N(etwork) A(ctivities) of BigTech
Platforms,” mimeo.
Chiu, J, S M Davoodalhosseini, J Jiang and Y Zhu. (2019), “Bank market power and
central bank digital currency: Theory and quantitative assessment”, Bank of Canada
Staff Working Paper No. 2019-20.
Darbha, S and R Arora (2020), “Privacy in CBDC technology”, Bank of Canada Staff
Analytical Note 2020-9.
Davoodalhosseini, M, F Rivadeneyra and Y Zhu (2020), “CBDC and Monetary Policy”,

Bank of Canada Staff Analytical Note 2020-4.
Garcia, A, B Lands, X Liu and J Slive (2020), “The potential effect of a central bank digital
currency on deposit funding in Canada”, Bank of Canada Staff Analytical Note 2020-15.
Garratt, R J and M R C Van Oordt (2021), “Privacy as a public good: a case for electronic
cash”, Journal of Political Economy 129(7).
Gorelova, A, B Lands and M teNyenhuis (forthcoming) “Resilience of bank liquidity

metrics in the presence of CBDC”, Bank of Canada Staff Analytical Note.
Henry, C, K Huynh and A Welte (2017), “Methods-of-Payment Survey Report”, Bank of
Canada Staff Discussion Paper 2018-17.
Huynh, K, G Nicholls and M Nicholson (2019), “Cash Alternative Survey Results”, Bank
of Canada Staff Discussion Paper 2020-8.
96
Huynh, K, J Molnar, O Shcherbakov and Q Yu (2020), “Demand for Payment Services
and Consumer Welfare: The Introduction of a Central Bank Digital Currency”, Bank of
Canada Staff Working Paper 2020-7.
Kahn, C M, F Rivadeneyra and T-N Wong (2020a), “Should the central bank issue
e-money?”, Journal of Financial Market Infrastructures 8(4): 1-22.
Kahn, C M, F Rivadeneyra and T-N Wong (2020b), “Eggs in One Basket: Security and
Convenience of Digital Currencies”, Bank of Canada Staff Working Paper.
Kahn, C M, M R C van Oordt and Y Zhu (2021), “Best Before? Expiring Central Bank
Digital Currency and Loss Recovery”, mimeo, Bank of Canada.
Lane, T (2020), “Money and Payments in the Digital Age”, speech, Bank of Canada.
Lane, T (2020), “Payments innovation beyond the pandemic”, speech, Bank of Canada.
Li, J (2021), “Predicting the Demand for Central Bank Digital Currency: A Structural
Analysis with Survey Data”, mimeo, Bank of Canada.
Miedema, J, C Minwalla, M Warren and D Shah (2020), “Designing a CBDC for universal
access”, Staff Analytical Note 2020-10.
Minwalla, C (2020), “Security of a CBDC”, Bank of Canada Staff Analytical Note 2020-11.
Shah, D, R Arora, H Du, S Darbha, J Miedema and C Minwalla (2020), “Technology

Approach for a CBDC”, Bank of Canada Staff Analytical Note 2020-6.
Townsend, R (2021), “Delegation of Programmable Contracts to the Private Sector: Is

there a Public Sector Role?”, remarks delivered at the 7th Joint Bank of Canada and
Payments Canada Symposium on Shaping the Future of Payments, September.
Usher, A, E Reshidi, F Rivadeneyra and S Hendry (2021), “The Positive Case for a CBDC”,
Staff Discussion Paper 2021-11.
ABOUT THE AUTHORS
Jonathan Chiu is the Director of the Banking and Payments Research Team at the Bank
of Canada. His main research interests concern monetary theory, banking, payments
and financial infrastructures. His current research focuses on cryptocurrency, central
bank digital currency, and payments services provided by digital platforms. He also
teaches monetary theory at Queen’s University. Jonathan received his PhD in economics
from the University of Western Ontario.
Francisco Rivadeneyra is the Director for CBDC & FinTech Policy at the Bank of Canada.
He leads the team developing policy advice in areas of central bank digital currency,
electronic money and payments, and the implications for central banks of broader
financial innovations. He also is an active researcher working in the intersection
of technology, payments infrastructures and finance. His current research studies 97
the security and convenience trade-off of digital currencies and the use of artificial
intelligence in the liquidity management problem of commercial banks. Mr. Rivadeneyra

holds a PhD in Economics from the University of Chicago.
CHAPTER 13
The role of central banks when cash 99
is no longer king: Perspectives from
THE ROLE OF CENTRAL BANKS WHEN CASH IS NO LONGER KING: PERSPECTIVES FROM SWEDEN | FLODÉN AND SEGENDORF
Sweden
Martin Flodén and Björn Segendorf
Sveriges Riksbank and CEPR; Sveriges Riksbank
The Riksbank has been exploring a central bank digital currency (CBDC), the e-krona,
for some time (Skingsley 2016, Sveriges Riksbank 2017). The e-krona project should be
seen in the context of a rapid transformation of the Swedish payments market. With
a mandate to promote safe and efficient payments, the Riksbank must adapt to this
transformation. We will briefly discuss the e-krona project towards the end of this
chapter. But we first describe current developments in the Swedish payments market and
challenges related to these developments.
SWEDEN: A CASHLESS ECONOMY
Sweden has effectively become a cashless economy. Over the last decade, the share of cash
transactions at point of sale (POS) has fallen from nearly 40% to below 10%. A majority
of people use cash a few times per year or not at all.
One reason for this development is the high penetration of cards and the high acceptance
of cards at the POS. Debit cards dominate and can be used almost everywhere, and
Sweden has one of the highest number of card transactions per capita in the world.1
Digital technology has enabled the development of person-to-person payments in real
time. With more than 80% of adults regularly using the mobile payment service Swish, it
has largely replaced cash in those situations (Betalningsutredningen 2021).
The market for payment services is typically a two-sided market with distinct groups
of users (often consumers and businesses) where network externalities go from one side
to the other. For example, as more consumers use cards, it becomes more attractive for
businesses to accept cards. This logic also works the other way around – retailers, hotels
and restaurants have, to an increasing degree, stopped accepting cash (Arvidsson et al.
2018). The cost of maintaining the cash distribution infrastructure is therefore shared
among fewer and fewer parties. As the use of cash is decreasing, continuing to accept
1 See Committee on Payments and Financial Market Infrastructures, Red Book Statistics for CPMI Countries, Table CT6C.
cash will become less economically rational over time. The trend of falling use of cash
is also fuelled by demography, as cash is rarely used by younger generations. Recently,
Covid-19 and increased e-commerce have accelerated the development.
Even banks are becoming cashless, at least in the meaning of not handling cash at their
100
branches. Of the five major banks, only one is still offering cash services at some (a
handful) of its branches.
Most Swedes see many advantages with this development, and face no major problems
with the cashless economy. One reason is that almost every Swede has a bank account,
a debit card and a smartphone, including children, who can have debit cards and Swish
with their parents’ permission.
But there are a few exceptions, such as recently arrived asylum seekers, illegal immigrants
and homeless people. And some lack access to digital technology or are unable to use it
in full. According to some estimates, this latter group may constitute up to 10% of the
population or more.2 Moreover, although only one third of Swedish consumers use cash
on a somewhat regular basis, two thirds of them value having cash as an option.
The transformation to a cashless economy is thus not without friction. We will in the
remainder of this chapter get back to some concerns that the Riksbank has with the
development.
WHERE IS THE SWEDISH PAYMENTS MARKET HEADING?
Absent public intervention, the Swedish payment market will likely continue to develop
in the direction discussed above. The retail payments market is already dominated
by different forms of private money, foremost issued by commercial banks. Without
strengthened legal support for the acceptance of cash and related withdrawal and deposit
services, it will become more and more difficult not only to use cash, but also to get hold
of cash and to deposit it. Access to central bank money will then in practice be restricted
to banks, implying a limited convertibility of privately issued krona into krona issued by
the Riksbank.
The payment services that are used to transfer privately issued money are likely to be
provided by a mix of banks and other, more lightly regulated, companies in the FinTech
sector. The technological development and payment initiation services, enabled by the
Payments Service Directive 2 (PSD2), will continue to break down the silo structure of
the old payments market. As an example, card payments used to dominate at the POS
and in e-commerce, but today one can easily build a POS payment service using direct
debits or instant payments.
2 Six percent of the population does not use internet or do so very seldom, but some 20% say that they need help to use
it. Digital exclusion is highest among those that are old, live in single households or have low income (Internetstiftelsen
2020).
The Swedish retail payments market will also be affected by a consolidation of financial
infrastructure and of major players. The consolidation is driven by the desire to exploit
economies of scale and network effects, and thus to stay competitive. This consolidation
will take place on three levels: regional, European and global.
101
On the regional level, the major banks are active on all the Nordic markets and in the
northern part of the continent. And a group of large Nordic banks have joined forces to
develop a pan-Nordic clearinghouse (P27).
On the European level, we are likely to see a migration of non-euro currencies to the
settlement systems of the Eurosystem (T2, TIPS, T2S) that become multi-currency
systems.
On the global level, the global card schemes are likely to remain important for the
European market in general, and the Swedish market in particular. But international
payments today are often channelled through systems of correspondent banks, and tend
to be slow, non-transparent and expensive (CPMI 2018, Financial Stability Board 2020a).
There are a number of private initiatives to address this inefficient infrastructure, for
example Facebook’s ambition to create a global stablecoin.
We do not, however, anticipate a prominent role for stablecoins or other cryptocurrencies

on the Swedish payments market. Swedish banks have been quick to adapt to new
technologies and to develop new FinTech products.3 Stablecoins are more likely to
gain initial ground in economies where banks either are not responding to the FinTech
developments or, because of low financial inclusion, have problems reaching out to the
population.
MONEY AND THE ROLE OF THE CENTRAL BANK
The Riksbank’s mandate is to ensure price stability and to promote a safe and efficient
payment system.
The mandate implicitly means that there must be a national currency controlled by the
Riksbank and that is widely used for payments, since the Riksbank would otherwise not
be able to conduct monetary policy to ensure price stability. Moreover, the Riksbank
can only promote a safe and efficient payment system if this national currency is used in
payment systems that the Riksbank has some control over.
In other words, for the Riksbank to be able to live up to its mandate, it is crucial that the
krona remains the dominant money used for payments in Sweden and that the Riksbank
has some control of the domestic payment systems.
3 They have, for example, reduced the number of branches substantially and pushed customers to digital banking. They
have also engaged prominently in FinTech activities, for example by developing the Swish instant payment system and a
uniformly accepted digital id, BankID.
And if the Riksbank lives up to its mandate so that inflation is low and stable, and
payments are convenient, inexpensive, fast and safe for everyone at all times, then there is
a good chance that the krona will remain the dominant form of money used in domestic
transactions.
102
The two tasks in the Riksbank’s mandate, together with the implicit understanding that
the krona shall be used for payments in Sweden in payment systems under some control,
are thus closely intertwined, as illustrated in Figure 1.
FIGURE 1 THE RIKSBANK CAN ONLY DELIVER ON ITS MANDATE IF THE KRONA IS
DOMINATING THE SWEDISH PAYMENTS MARKET; AND THE KRONA WILL ONLY
DOMINATE THE SWEDISH PAYMENTS MARKET IF THE RIKSBANK DELIVERS ON
ITS MANDATE
Monetary
policy,
payments
infrastructure
Price stability,
SEK used for
safe and
payments in
efficient
Sweden
payments
The developments on the payments market that we summarised above introduces some
challenges for a central bank.
We have seen in history that failure to deliver on the price stability mandate can result in
a currency being abandoned, often in favour of the US dollar. This risk is thus not new,
but we suspect that the threshold for currency substitution is lower in the presence of
alternative digital currencies, in particular in an economy where payments are already
digital.
Moreover, the new digital payments landscape is fragile. It hinges on a few, centralised IT
systems managed by a few agents (the central bank, clearing organisations, commercial
banks, FinTechs, IT service providers, etc.) and the systems are often interconnected.
There are thus a few single points of failure, meaning that technical problems or cyber-
attacks can lead to severe disruptions in economic activity.
This stands in contrast to the traditional cash infrastructure provided by the Riksbank.
Settlement in cash is decentralised, less dependent on technology and more robust. Even
though cash has long played a relatively minor role on the Swedish payments market,
there was until recently an existing infrastructure that could be scaled up in times of
crises. Arguably, this is no longer the case. 103
The digital payments landscape is also rapidly evolving with new, more effective, products
and new entrants. This introduces competition on the payments market, not only at the
retail level but also on the market for payment systems and their infrastructure.
All this means that central banks cannot only fail in delivering on price stability but
also in promoting a system where payments are safe (i.e. reliable and always available for
everyone) and efficient (i.e. easy to use, fast and inexpensive).
THE RIKSBANK RESPONDS TO THE NEW PAYMENTS LANDSCAPE
The Riksbank has responded to these challenges in a number of ways.
First, it has argued for a strengthened legal status for cash and supported new legislation
requiring banks to provide a minimum of cash services. The ambition is to introduce
speed bumps so that the transformation of the market is orderly and gives everyone a
chance stay on board. Everyone must have access to basic payment services. Despite the
new legislation, the legal status for cash remains weak and the Riksbank receives a fair
number of complaints from the general public, especially on the lack of deposit services.
Second, the payments infrastructure has important elements of network effects and tends
to develop into a natural monopoly. In the hands of the private market, the infrastructure
may be an obstacle to competition and innovation. Moreover, robustness of the payment
system is at danger if it relies on the continued services from one or a few private agents.
Our view is therefore that the core payments infrastructure, in particular settlement in
Swedish krona, is a public good that should be provided by the Riksbank rather than by
the market.
Today, the Riksbank runs a real time gross settlement system (RTGS) that is open for
banks during office hours on weekdays and which is designed to only process a limited
number of transactions per day. The Riksbank also provides custom-made solutions
supporting settlement of Swish instant payments (in private money) and Euroclear
Sweden’s securities settlements.4 These are, however, not solutions for the future. The
Riksbank must provide a modern and cost-effective infrastructure that promotes safety
as well as efficiency, innovation and competition on the payments market.
4 The settlement infrastructure behind the Swish system, BiR, is indirectly owned by the large banks. Transactions are
settled in BiR money backed by central bank money, resulting in liquidity management that is costly and puts restrictions
on transaction volumes when the RTGS system is closed. Regarding Euroclear Sweden, the Riksbank lets Euroclear operate
Riksbank accounts in its securities settlement system which reduces settlement risks through delivery-versus-payment
settlement.
Consequently, since instant payments will continue to grow in importance, the Riksbank
must provide an infrastructure that can settle instant payments 24/7. Settlement in that
system shall be in Swedish krona and central bank money. The Riksbank has concluded
that the best way forward is to adopt the Eurosystem’s TIPS platform. This solution will
104 be cost-effective and robust, and will promote international competition and potentially
facilitate some cross-currency payments (Flodén 2019). For similar reasons, the Riksbank
has communicated its ambition to also use the Eurosystem’s T2 and T2S platforms for,
respectively, RTGS-services in the Swedish krona and Swedish securities settlements.
Third, the Riksbank has joined forces with other central banks and with international
organisations to address the shortcomings in the market for international payments. For
example, the G20+ based Committee on Payments and Market Infrastructure (CPMI)
is now investigating what building blocks that are needed to establish more efficient
solutions for international payments (CPMI 2020, Financial Stability Board 2020b).
A remaining challenge is access and convertibility to central bank money. Price stability
and a safe store of value must apply to the monies used by households and businesses.
Different types of private money must have the same value and this value must be equal
to the value of public, central bank money. As an example, krona deposits held at Bank A
must have the same value as a corresponding deposit at Bank B. These deposits must also
have the same value as the corresponding amount held in central bank money, either in
the form of banknotes or reserves.
The marginalisation of cash threatens convertibility between private and public money.5
One question that the Riksbank is struggling with is whether universal access to public
money is an important element for the credibility and safety of the monetary system.
Another question that we are struggling with is whether a digital payment system run by
the private sector is sufficiently robust.
AT A CROSSROADS
The transformation to a cashless society takes Sweden and the Riksbank to a crossroads.
One road leads towards a society where the general public has no access to central bank
money and can only use privately issued money. The other road leads to a society where
the Riksbank issues a digital version of central bank money available to the general
public. No-one can predict the consequences of these choices, and yet we must choose.
5 In Sweden, convertibility of commercial bank money to central bank money is not well regulated and hence not guaranteed.
Banks are required to offer withdrawal services to a specified extent, but this is almost exclusively done through ATMs
where restrictive withdrawal limits make it difficult to convert more than small amounts of commercial bank money to
central bank money at will. There is no corresponding requirement to offer deposit services.
Our view on the first road is somewhat different from that of Gorton and Zhang
(2021: 41) who conclude that “as stablecoins evolve further, the stablecoin world will look
increasingly like an unregulated version of the Free Banking Era – a world of wildcat
banking”.
105
As we explained above, we do not anticipate that unregulated stablecoins would take
over the Swedish payments market if the Riksbank remains passive. More likely, the
retail payments market would remain dominated by different forms of commercial-bank
money. This commercial bank money could be described as a regulated stablecoin in
Swedish krona. It is regulated since banks are regulated and must live up to strict capital
requirements to cover credit losses and ensure enough liquidity for the bank to meet its
obligations. This ‘stablecoin’ is not only backed by the asset side of the issuing bank’s
balance sheet, but also by deposit insurance that cover most household deposits.
Note, however, that there would be no real convertibility to central bank money – not even
from the deposit insurance. The deposit insurance only converts one type of commercial
bank money into money issued by another bank.
However, an important element along this road that takes us in the direction of backing
by public money is the bank resolution regime. Systemically important banks will not be
allowed to go bankrupt but will instead be put in resolution, thereby – at least temporarily
– converting insured deposits into public money.
The consequences of choosing the other road – issuing a central bank digital currency –
are even more difficult to predict. It is, however, a question that the Riksbank has been
analysing since 2017.
THE E-KRONA PROJECT
The Riksbank has pursued two main workstreams in its work on a central bank digital
currency, an e-krona. The first workstream is analytical, addressing issues like those we
have discussed above. The second workstream is technical, exploring how an e-krona
could be designed and what functionality it could have (Sveriges Riksbank 2017, 2018,
2021).
The Riksbank’s current stand on a possible e-krona is that, to be meaningful, it should

meet three main objectives: it should give the general public access to central bank
money; it should strengthen the robustness and continuity of the payments market; and
it should promote competition and innovation.
The first objective – access to central bank money for the general public – is an inherent
feature of any retail CBDC. As we discussed above, such access may provide an important
anchor for a unified monetary system. It is unclear how the general public would perceive
a loss of this access.
Above, we also discussed the fragility of the digital payments infrastructure. Robustness
of the retail payments market needs to be reconsidered in the digital era. To meet the
second objective, the e-krona needs to have its own core infrastructure where it offers an
alternative route for some payments if other infrastructure is unavailable. The project
106 also attempts to build functionality for offline payments, i.e. to allow for payments at the
point of sale even if the e-krona core infrastructure in unavailable. This would only work
for a limited period of time but could enable consumers to buy basic goods such as food,
fuel and medicine.
The emergence of payment initiation services has increased diversity and competition
on the surface of the retail payments market but less so in the layers below, and many
FinTech companies complain about the lack of access to the payments infrastructure. An
e-krona can potentially contribute by giving the FinTech sector access to its infrastructure
and thus reduce their dependence on banks. This would facilitate competition with
established, and sometimes dominant, payment services.
The Riksbank’s current thinking on the e-krona is that the Riksbank should be
responsible for the core infrastructure and the rulebook. Banks and FinTechs should act
as intermediaries and distribute e-krona to their customers and build and provide e-krona
payment services. This is in line with the current division of tasks and responsibilities
between the Riksbank and the private sector. The e-krona, if launched, would be built
to serve the Swedish market. The target group is likely to be EU and EES citizens with
an economic tie to Sweden. Payments could be initiated by cards, mobile apps, dedicated
hardware gadgets and so on, depending on how market actors integrate the e-krona in
their choice of initiation technology.
Many central banks have recently intensified their work on CBDC (e.g. ECB 2020, Bank of
Canada et al. 2020, 2021, G7 2021). An e-krona would have to relate to this international
work. One area that has recently attracted growing interest is how CBDCs can facilitate
cross-border payments. International progress in this area needs to be considered in the
e-krona design.
It is important to point out that the Riksbank has not decided whether or not to introduce
an e-krona. The project is still analysing the possibilities to provide more robustness and
promote competition. There are also a number of other questions that must be addressed
before a decision on the e-krona can be made. Two questions are particularly pertinent.6
First, is there a business case for private intermediaries to participate in its distribution
and what would be the impact on the Riksbank’s finances? As noted above, there are
economies of scale and network effects on the payments market. Providing a parallel
infrastructure and promoting competition would work against these natural forces.
6 The Riksbank will continue to look into other questions as well, such as implications for monetary policy. This will often be
done in cooperation with other central banks.
The e-krona would imply both fixed and variable costs for participating intermediaries,
for example related to IT systems and anti-money laundering (AML) and know your
customer (KYC) procedures. Fees for payment initiation and complementary services
could potentially cover some of the costs, but payment related data would likely be in
the centre of the business models of the private sector. Finding a good balance between 107
privacy and use of data would not be easy.
The Riksbank would carry costs from building and operating the core e-krona
infrastructure, monitoring usage and services, and so on. Seigniorage would likely have
to be the main source of revenue. But there will be little or no seigniorage if either the
demand for holding e-krona is low or e-krona holdings are remunerated at the market
interest rate. The objective of a central bank is not to generate a profit, but its costs must
be managed if it is to maintain its financial independence, something that is typically
seen as a fundamental requirement for being able to conduct an effective monetary policy.
Second, an e-krona could challenge the funding model used by traditional banks, as
households and businesses could choose to hold e-krona instead of bank deposits. A
substantial e-krona uptake would therefore lead to an important transformation of the
financial markets. The Riksbank’s mandate is not to sustain a particular bank funding
model, but implications for financial stability would have to be carefully considered.
Some recent studies indicate that this transformation would be manageable, but the
question is not yet settled (Bank of Canada et al. 2021b).
CONCLUSION
Standing at the crossroads, a number of difficult questions and trade-offs arise. The
consequences of these choices concern the whole society. It is, ultimately, a question
about how we want to arrange the future monetary system, the role of the state in that
system and the role of the central bank.
This is why the Riksbank has been so transparent in its exploration of an e-krona. This
is also why the Riksbank wrote a petition to the Swedish parliament in 2019 asking
for a broad inquiry about the state’s role in the future payment and monetary systems
(Sveriges Riksbank 2019). The inquiry, launched by the government in December 2020, is
expected to publish its final report in November 2022.7 The inquiry will give an important
public policy aspect on the e-krona which, together with the work by the Riksbank, will
constitute the basis for a future decision.
7 For more information on the inquiry, see Statens roll på betalningsmarknaden - Regeringen.se.
REFERENCES
Arvidsson, N, J Hedman and B Segendorf (2018), När slutar svenska handlare att
acceptera kontanter?, Research Report 2018:1, The Swedish Retail and Wholesale
108 Council, January.
Bank of Canada, ECB, Bank of Japan, Sveriges Riksbank, Swiss National Bank, Bank
of England, Board of Governors of the Federal Reserve and Bank for International
Settlements (2020), Central bank digital currencies: foundational principles and core
features, Report No. 1, October.
Bank of Canada, European Central Bank, Bank of Japan, Sveriges Riksbank, Swiss
National Bank, Bank of England, Board of Governors of the Federal Reserve and Bank
for International Settlements (2021a), “Central bank digital currencies: An executive
summary”, September.
for International Settlements (2021b), Central bank digital currencies: financial stability
implications, Report No. 4, September.
Betalningsutredningen (2021), “Undersökning om betalningsvanor och synen på

utvecklingen på betalningsmarknaden”, Government Offices of Sweden, September.
CPMI – Committee on Payments and Market Infrastructures (2018), “Cross-border retail

payments”, CPMI Paper No. 173, Bank for International Settlements, April.
CPMI (2020), Enhancing cross-border payments: building blocks of a global roadmap,

Stage 2 report to the G20, July.
ECB (2020), A digital euro, October.
Financial Stability Board (2020a), Enhancing Cross-border Payments: Stage 1 report to

the G20, April.
Financial Stability Board (2020b), Enhancing Cross-border Payments: Stage 3 roadmap,

October.
Flodén, M (2019), “Should the Riksbank’s payment system be open 24/365?”, speech,
Sveriges Riksbank, 12 June 12,
G7 (2021), “Public Policy Principles for Retail Central Bank Digital Currencies (CBDCs)”,
October.
Gorton, G B and J Zhang (2021), “Taming wildcat stablecoins”, mimeo, Yale School of
Management.
Internetstiftelsen (2020), Digitalt utanförskap 2020 Q1.

Skingsley, C (2016), “Should the Riksbank issue e-krona?”, speech, Sveriges Riksbank, 16
November.
Sveriges Riksbank (2017), The Riksbank’s e-krona project, Report 1, September.
Sveriges Riksbank (2018), The Riksbank’s e-krona project, Report 2, October. 109
Sveriges Riksbank (2019), “The state’s role on the payment market”, Petition to the
Swedish Riksdag 2018/19 RB:3, April.
Sveriges Riksbank (2021), ”E-krona pilot phase 1”, April.
ABOUT THE AUTHORS
Martin Flodén is Deputy Governor and a member of the Executive Board at Sveriges
Riksbank since 2013. He is also a CEPR Research Fellow in the Monetary and Economic
Fluctuations program, and on leave from a position as professor of economics at
Stockholm University. He represents the Riksbank in OECD’s Working Party 3 (WP3),
the Basel Committee on Banking Supervision (BCBS), the Bellagio Group and the
Financial Stability Board’s (FSB) Regional Consultative Group for Europe (RCG-E).
Björn Segendorf is Senior Adviser at the Payment Department at Sveriges Riksbank.

His main areas of expertise are retail payments, financial infrastructure and related
policy issues. The last 10 years he has increasingly worked on FinTech, innovation, the
entry of non-banks, the cashless society, and CBDC. Björn has worked on the Riksbank’s
CBDC project (the e-krona) from start and acted as editor of the e-krona project reports.
He is a member of the ESCB Market Infrastructure and Payments Committee and has
participated in various BIS/CPMI working groups. Björn has a Ph.D. in economics from
the Stockholm School of Economics.
CHAPTER 14
The Eurosystem’s digital euro project: 111
Preparing for a digital future
THE EUROSYSTEM’S DIGITAL EURO PROJECT: PREPARING FOR A DIGITAL FUTURE | ASSENMACHER AND BINDSEIL
Katrin Assenmacher and Ulrich Bindseil1
European Central Bank
Digitalisation is pervasive in today’s economy and is changing the way we pay. While
digital money has traditionally been provided by banks, other means of digital payments
have emerged more recently. This has prompted questions about the role of central banks
in supplying digital money to the general public. In light of these developments, the
Governing Council of the European Central Bank decided on 14 July 2021 to formally
launch a project to get ready for the possible issuance of a digital euro. The digital euro
would complement cash and not replace it, as the Eurosystem remains committed to
continuing to supply cash. A decision to actually launch a digital euro would be taken only
at a later stage and not before the investigation phase of the project has been concluded
(ECB 2021).
THE PAYMENTS PERSPECTIVE
Why prepare for a digital euro?

For decades, the private sector has deployed ever more convenient digital retail payment
solutions, while the format of central bank money available to the general public – paper
banknotes – has remained unchanged. The digital revolution has transformed our
lives. We use the internet constantly via our laptops and mobile phones; we order more
and more via e-commerce; we interact through social media and instant messaging
applications. The Covid-19 pandemic has accelerated this trend. According to the ECB’s
2020 payments survey, euro area digital payments overtook cash payments in value
terms in for the first time in 2019. Extrapolating the current trends also means a growing
predominance of electronic payments for the euro area.
Another major trend is the global scale of competition in digital payments. Payments
are subject to strong network effects: the more users a payment system or solution (or
a set of fully interoperable solutions) has, the more attractive it becomes to new users.
Visa, MasterCard, and PayPal have attracted a growing share of European consumers –
obviously because of their attractive product offering. Market power provides room for
1 The views expressed are those of the authors and do not necessarily reflect those of the ECB.
non-competitive price setting and rent extraction. Regulation might partially address
this, but it is rarely fully effective and may have side-effects. Europe has underperformed
in recent years in the global competition among payment instruments. The lack of
payments integration in the euro area has helped foreign providers (or subsidiaries of
112 foreign parent companies) to take the lead. While openness to global competition is
crucial to foster innovation, excessive dependency on a few foreign private or public
digital means of payment and technologies can lead to rent extraction from European
citizens and merchants, and strategic dependence. The evolving global context, with an
observed deterioration in international relations, have increased the potential risks to
payments, monetary, and potentially political sovereignty.
As a consequence, on 2 October 2020 the ECB published its first report on a possible
ECB-issued central bank digital currency (CBDC), called the digital euro, “for use in
retail transactions available to the general public – that is, including citizens and non-
bank firms – rather than only being available to traditional participants (typically banks)
in the large-value payment system managed by the central bank” (ECB 2020a: 6).
The continued co-existence of central bank and private (commercial bank)

money
As argued in Bindseil et al. (2021), central banks are considering issuing CBDC given
their responsibility to sustain confidence in their currency by maintaining public access
and full usability of central bank money in a world in which consumers and firms are
turning more and more to electronic payments. Commercial bank money (and other
regulated forms of money such as electronic money) are the liability of different private
issuers. They are perceived by the public to be interchangeable at the same value. This
is because commercial bank money is ‘anchored’ to central bank money – i.e. the form
of the currency that defines the unit of account. This anchoring is necessary for central
banks to preserve monetary and financial stability. It is sustained by a set of mechanisms,
one of which is the public’s confidence that they can exchange bank deposits for cash
upon demand. If demand to use cash for payments continues to decline, the anchoring
is debilitated as the convertibility into central bank money becomes more and more a
theoretical construct instead of a daily experience. The liquidity of cash will fade slowly if
the spheres of commerce in which it can be used shrink over time (for example, with the
growth of e-commerce or after the impact of the Covid-19 shock). With CBDC, central
banks seek to preserve the usability of central bank money in a changing world in which
more and more people and merchants prefer the convenience of electronic means of
payments. A wide adoption of stablecoins would also undermine the anchoring to central
bank money, depending on their design and systemic nature. Stablecoins issue their
own money with the promise of a stable value with regards to some currency, basket
of currencies or even commodities (by stating they will invest in relevant assets, not
necessarily through the commitment to convert into assets or even into central bank
money) and a wide network for payments (by leveraging on the existing customer base of
large technology firms and the corresponding incentives to establish closed loops).
113
Synergies of a digital euro with, and reliance on, the private sector
In its report on a digital euro, the ECB expresses the idea that a possible digital euro
would be distributed with the help of supervised entities, in particular banks. This
would have a number of advantages, such as providing a way to convert commercial
bank money into central bank money and vice versa. It would also mean that customer
authentication by commercial banks and their client relationships could be relied on
to address customer questions and problems. This still raises a variety of policy and
technical questions which would need to be answered in one way or another. How can
the design of the digital euro be as open as possible in terms of the way intermediaries
can integrate it into their existing solutions, while still guaranteeing safety and integrity?
What categories of supervised entities could offer digital wallets in digital euros? Should
the ECB ensure that market power by single providers of wallets remains limited in the
distribution of the digital euro? Would it be an issue from the perspective of monetary
sovereignty if non-European firms or subsidiaries of non-European firms were to play an
important role in distributing the digital euro? What degree of concentration in single
non-European firms, and in foreign firms in total, would be acceptable? What services
in the context of fraud prevention and refundability for e-commerce transactions would
be foreseen?
How much functionality for the digital euro?

Designing a digital euro from scratch obviously creates the temptation to give it the
most comprehensive and state-of-the art functionality, based on the most innovative
technology. For example, it has been suggested that a digital euro should (1) allow for fully
anonymous payments to protect privacy, while respecting anti-money laundering rules;
(2) allow for offline payments; (3) allow for instant credit transfers and direct debits,
(4) be programmable and allow for ‘smart contracts’ for advanced use cases in industry
and commerce; (5) ensure financial inclusion (meaning potentially also usable by the
non-banked and those without mobile phones); (6) be as convenient to use as existing
private sector solutions; and (7) include card, mobile, and internet/desktop access. The
payments industry provides many examples of promising approaches and technologies
which ultimately did not take off for reasons that could not have been foreseen, and it
might be argued that what is not on offer now may not be successfully deployed by a
digital euro either. While there are merits to designing a new instrument like CBDC in
a comprehensive way to add as much value as possible for society, this ambition would
also create significant project risk, and in any case would increase the duration and costs
of preparing for CBDC issuance. The fact that the ECB has committed to continuing to
issue banknotes with no time limit and both the ECB and the European Commission
have also expressed their commitment to ensuring that cash remains usable is another
reason to possibly accept a digital euro with somewhat more limited initial functionality.
The possibility of anonymous off-line payments using central bank money should
remain in place for years anyway, and it may thus be argued that the necessity of such
114 payments being offered by a digital euro is lower. Last but not least, a very comprehensive
functionality (if really successfully deployed) would also maximise the footprint of the
digital euro and possibly lead to a crowding out of the private sector, which might be
deemed excessive.
The launch of the digital project investigation phase

On 14 July 2021 the ECB decided to launch the investigation phase of a digital euro project
and explained its key objectives in a press release, also highlighting that this was not a
decision to actually issue a digital euro in the future. The investigation phase will last 24
months and aims to address key issues regarding design and distribution. During the
project’s investigation phase, the Eurosystem will determine a possible functional design
that is based on users’ needs. It will involve focus groups, prototyping and conceptual
work. The investigation phase will examine the use cases that a digital euro should
provide as a matter of priority to meet its objectives: a riskless, accessible and efficient
form of digital central bank money. The investigation phase will also identify the changes
to the EU legislative framework which might be needed, whereby the ECB will continue
to engage with the European co-legislators and will conduct further technical work
with the Commission. Moreover, the investigation phase will define a business model
for the digital euro ecosystem (i.e. possible compensation for distribution and other
services, possible low merchant fees, cost recovery objectives and public good factor). The
views of prospective users and distributors of a digital euro will be sought during the
investigation phase to ensure a user-friendly and viable integration of the digital euro
into the payments ecosystem.
MONETARY POLICY AND FINANCIAL STABILITY CONSIDERATIONS
From a monetary policy perspective, the issuance of a digital euro would help anchor the
availability of central bank money in an increasingly digital world. It would, however,
also involve a host of design decisions that can affect monetary policy transmission,
the Eurosystem’s balance sheet and the financial sector in general. According to the
foundational principles that were derived in a Bank for International Settlements report
by a coalition of seven central banks (Bank of Canada et al. 2020), a digital euro should
be designed in such a way that it should “do no harm” to central banks’ monetary and
financial stability mandates. As highlighted in Panetta (2021), a digital euro – if it were
not properly designed – could affect monetary and financial stability on three fronts: (1)
financial intermediation, financial stability and capital allocation in normal times; (2)
financial stability in times of crisis; and (3) the functioning of the international financial
system. In the following, we will briefly discuss these main areas.
Financial intermediation, financial stability and capital allocation
By providing citizens with a digital means of payment, a digital euro would be a close
substitute to private digital money that currently exists mostly in the form of bank
deposits and which constitutes an important source of bank funding. At an aggregate
115
level, CBDC adoption could alter the composition of banks’ liabilities and possibly
also affect the asset side of banks’ balance sheets. A large-scale substitution of bank
deposits for digital euros therefore could have consequences for bank profitability and
the transmission of policy rate changes to market interest rates (ECB 2020a). This type
of deposit disintermediation, described as a risk for CBDC issuance, could also occur
with other private forms of money such as stablecoins, which would provide lower public
benefits.
On a more general level, a reduction of the intermediation capacity of the banking sector
could lead to funding being shifted to new platforms beyond the regulated sector, which
could raise new issues related to supervision and macro-financial stability. A greater
reliance of banks on central bank borrowing could also affect credit allocation across
borrowers. Banks are specialised in lending to small borrowers while central banks
typically lend against high-quality collateral (often sovereign debt), meaning that banks
cannot simply shift such credit claims to the central bank to obtain funding. As data on
the potential demand for a CBDC do not yet exist, these effects are difficult to quantify
and subject to high uncertainty.
Financial stability in times of systemic stress

While the previous paragraphs discussed bank disintermediation risks of a digital euro in
normal times, the impact of substitution of bank deposits with a digital euro could become
more acute during a crisis. In the event of a systemic financial crisis, bank deposits could
be more easily converted into digital euros than into cash, which could make systemic
bank runs worse (Bindseil and Panetta 2020). This would particularly be the case if the
digital euros were supplied in unlimited quantities, with fixed remuneration and no risk
of loss.
Measures to mitigate financial stability and monetary policy risks

These considerations suggest that, in order to manage any potential adverse effects on
monetary policy and financial stability, safeguards should be in place to steer demand
and mitigate potentially disruptive developments. Panetta (2018) and Bindseil (2020)
propose a tiered remuneration system, in which individuals can hold a limited amount
of CBDC at favourable conditions as a means of payment, while larger holdings would be
discouraged by less favourable rates. Assenmacher et al. (2021) analyse the effectiveness of
different safeguards such as the remuneration of a CBDC, haircuts on assets held against
CBDC or a cap on CBDC holdings in a DSGE model with search frictions. The authors
find that such safeguards are effective in steering the demand for CBDC, although they
reduce welfare relative to the first-best allocation.
Overall, the design and calibration of safeguard measures would require balancing
116
trade-offs between limiting risks to financial stability and ensuring that a CBDC serves
its intended purpose.
International financial system

If a CBDC were available for cross-border use or in unlimited quantities to foreigners, it
could alter the structure of the international financial system and generate international
financial spillovers. An internationally traded CBDC could strengthen the cross-border
transmission of shocks, thus increasing exchange rate volatility and affecting capital
flow dynamics. There are other economic forces that determine currency choices in
international trade and finance which are not specific to the existence of a digital version
of a currency. For economies with less stable financial systems, however, the domestic
use of a foreign-issued CBDC could lead to currency substitution, especially in times of
crises. In the extreme, this could lead to a loss of monetary sovereignty, with the central
bank losing its ability to influence the domestic economy and to act as a lender of last
resort. International coordination between central banks could be a tool to govern
such externalities and reap the full benefits of technological innovation, for example
by discussing interoperability between different CBDC platforms or common technical
standards.
Ferrari et al. (2021) show that the existence of a foreign CBDC would potentially give
rise to stronger international monetary policy spillovers. Large holdings of a foreign
CBDC could complicate policy trade-offs for economies not issuing a CBDC, resulting in
potentially stronger exchange rate movements and capital flows in response to domestic
monetary policy shocks with a CBDC if business cycles are not synchronised across
economies.
CONCLUSIONS
The financial sector has adapted successfully to financial innovation and structural
change on several occasions. Should a digital euro be introduced, policymakers will
make sure that they have sufficient tools to manage the transition. To this end, safeguards
could be considered to ensure a smooth introduction of a digital euro. They could also be
applied on a permanent basis to mitigate any remaining risks. A decision about whether
or not to issue a digital euro will be made only when all of these risks have been addressed
(Panetta 2021).
Central bank money has been at the heart of the monetary system and provides the
anchor for monetary stability and settlement of payments. When analysing the costs and
benefits of a digital euro, it has to be considered that a future financial system could look
very different from that which we observe today, and central banks need to be prepared
to prevent socially undesirable outcomes. 117
REFERENCES
Assenmacher, K, A Berentsen, C Brand and N Lamersdorf (2021), “A unified framework

for CBDC design: remuneration, collateral haircuts and quantity constraints”, ECB
Working Paper No. 2578.
National Bank, Bank of England, Board of Governors Federal Reserve System and Bank
for International Settlements (2020), Central bank digital currencies: foundational
principles and core features, Report No 1.
Bindseil, U (2020), “Tiered CBDC and the financial system”, ECB Working Paper No. 2351.
Bindseil, U and F Panetta (2020), “CBDC remuneration in a world with low or negative
nominal interest rates”, VoxEU.org, 5 October.
Bindseil, U, F Panetta and I Terol (2021), “CBDC – functional scope, pricing and controls”,
forthcoming.
ECB (2020a), Report on a digital euro, October.
ECB (2020b), “Study on the payment attitudes of consumers in the euro area (SPACE)”,
December.
ECB (2021), “Eurosystem launches digital euro project”, Press Release, 14 July.
Ferrari, M M, A Mehl and L Stracca (2020), “Central bank digital currency in an open
economy”, ECB Working Paper No. 2488.
Panetta, F (2018), “21st century cash: central banking, technological innovation and
digital currency”, in E Gnan and D Masciandaro (eds), Do We Need Central Bank Digital
Currency? Economics, Technology and Institutions, SUERF Conference Proceedings
2018/2, pp. 23-32.
Panetta, F (2021), “Evolution or revolution? The impact of a digital euro on the financial
system”, speech at a Bruegel online seminar, 10 February.
ABOUT THE AUTHORS
Katrin Assenmacher is Head of the Monetary Policy Strategy Division at the European
Central Bank (ECB) since 2016. From 2010 to 2016 she led the Monetary Policy
118 Analysis Unit at the Swiss National Bank (SNB). She holds a Doctorate and a Diploma
in economics from the University of Bonn, where she also received her Habilitation.
Katrin was a visiting scholar at the Federal Reserve Banks of St. Louis and Atlanta,
the Oesterreichische Nationalbank and the Universities of Copenhagen and Southern

California. During her tenure at the SNB she lectured courses on monetary policy and
macroeconomics at the universities of Zurich and Bern.
Ulrich Bindseil has been Director General of Market Infrastructure and Payments at the
European Central Bank since November 2019. Before that, he was Director General of
Market Operations (May 2012-October 2019). Before joining the ECB in 1998, he worked
for the Deutsche Bundesbank (1994-97) and the European Monetary Institute (1997-98).
He chairs the ECB’s Market Infrastructure Board and is a member of the CPMI at the
BIS. He is honorary professor at TU Berlin.
CHAPTER 15
Central bank digital currency: A solution 119
in search of a problem?
CENTRAL BANK DIGITAL CURRENCY: A SOLUTION IN SEARCH OF A PROBLEM? | WALLER

Christopher J. Waller1
Board of Governors of the Federal Reserve System
The payment system is changing in profound ways as individuals demand faster

payments, central banks including the Fed respond, and nonbank entities seek a greater
role in facilitating payments. In all this excitement, there are also calls for the Federal
Reserve to ‘get in the game’ and issue a central bank digital currency (CBDC) that the
general public could use.
This topic is of special interest to me, since I have worked on monetary theory for the
last twenty years and researched and written about alternative forms of money for the
last seven.2 This chapter focuses on whether a CBDC would address any major problems
affecting our payment system. There are also potential risks associated with a CBDC, and
I will touch on those too. But at this early juncture in the Fed’s discussions, I think the
first order of business is to ask whether there is compelling need for the Fed to create a
digital currency. I am highly sceptical.
In all the recent exuberance about CBDCs, advocates point to many potential benefits
of a Federal Reserve digital currency, but they often fail to ask a simple question: What
problem would a CBDC solve? Alternatively, what market failure or inefficiency demands
this specific intervention? After careful consideration, I am not convinced as of yet that
a CBDC would solve any existing problem that is not being addressed more promptly and
efficiently by other initiatives.
Before getting into the details, let me clarify what I mean by ‘CBDC’. Put simply, a
CBDC is a liability of the central bank that can be used as a digital payment instrument.
For purposes of this discussion, I will focus on general purpose CBDC – that is, CBDC
that could be used by the general public, not just by banks or other specific types of
institutions. A general purpose CBDC could potentially take many forms, some of which
1 This chapter is based on a speech delivered on 5 August 2021 to the American Enterprise Institute. Not long before, the
European Central Bank said it would spend the next two years studying the question of whether to issue a digital currency,
and the topic continues to be of great public interest. The chapter was written after the Bank of International Settlements
issued a paper that was fairly enthusiastic about the prospect of central bank digital currencies and shortly before the
Board of Governors published its own paper on central bank digital currencies, which raised some of the issues and
concerns addressed in what follows. The views in this chapter are my own and do not represent any position of the Board
of Governors or other Federal Reserve policymakers.
2 For example, in 2016, my co-authors and I published a research paper that examined how the use of a privately issued
currency backed up by shares of a broad stock market index could replace publicly issued fiat currency (Andolfatto et al.
2016).
could act as anonymous cash-like payment instruments. Here, however, I will focus on
account-based forms of CBDC, which the Bank for International Settlements recently
described as “the most promising way of providing central bank money in the digital age”
(BIS 2021).3 Any such general purpose, account-based CBDC would likely require explicit
120 congressional authorisation.
CENTRAL BANK MONEY VERSUS COMMERCIAL BANK MONEY
It is useful to note that in our daily lives we use both central bank money and commercial
bank money for transactions. Central bank money (i.e. money that is a liability of the
Federal Reserve) includes physical currency held by the general public and digital account
balances held by banks at the Federal Reserve. The funds banks put into these accounts
are called reserve balances, which are used to clear and settle payments between banks.4
In contrast, chequing and savings accounts at commercial banks are liabilities of the
banks, not the Federal Reserve. The bulk of transactions, by value, that US households
and firms make each day use commercial bank money as the payment instrument.
FEDERAL RESERVE ACCOUNTS AND COMMERCIAL BANK ACCOUNTS
Under current law, the Federal Reserve offers accounts and payment services to
commercial banks.5 These accounts provide a risk-free settlement asset for trillions
of dollars of daily interbank payments. Importantly, the use of central bank money to
settle interbank payments promotes financial stability because it eliminates credit and
liquidity risk in systemically important payment systems (e.g. Committee on Payment
and Settlement Systems 2003).
Congress did not establish the Federal Reserve to provide accounts directly to the general
public; the Federal Reserve instead works in the background by providing accounts to
commercial banks, which then provide bank accounts to the general public. Under this
structure, commercial banks act as an intermediary between the Federal Reserve and
the general public. The funds in commercial bank accounts are digital and can be used
to make digital payments to households and businesses, but commercial banks promise
to redeem a dollar in one’s bank account into $1 of US currency. In short, banks peg
the exchange rate between commercial bank money and the US dollar at one-to-one.
Due to substantial regulatory and supervisory oversight and federal deposit insurance,
3 Note that any CBDC would require some kind of supporting technology. For example, many commentators have considered
the possibility that a CBDC could operate using a ‘distributed ledger’. Additionally, an account-based CBDC could
potentially take different forms. For example, the infrastructure for an account-based CBDC could be designed so that
the Federal Reserve would interact directly with the general public, or it could be designed so that banks or other service
providers would maintain all customer relationships with the general public. My comments today focus on the policy issues
associated with providing a CBDC rather than on technologies or infrastructure that would be necessary to support a
CBDC.
4 The Federal Reserve also provides accounts and payment services to the United States government, certain government-
sponsored enterprises, designated financial market utilities, foreign central banks, and certain international organizations.
5 For this purpose, I use the term ‘commercial bank’ broadly to include banks, thrifts, credit unions, and other depository
institutions.
households and firms reasonably view this fixed exchange rate as perfectly credible.
Consequently, they treat commercial bank money and central bank money as perfect
substitutes – they are interchangeable as a means of payment. The credibility of this fixed
exchange rate between commercial and central bank money is what allows our payment
system to be stable and efficient. I will return to this point later. 121
This division of functions between the Federal Reserve and commercial banks reflects

an economic truth: that markets operate efficiently when private-sector firms compete to
provide the highest-quality products to consumers and businesses at the lowest possible
cost. In general, the government should compete with the private sector only to address
market failures.
CONSIDERATION OF THE CASE FOR A FEDERAL RESERVE CBDC
This brings us back to my original question: What is the problem with our current
payment system that only a CBDC would solve?
Could it be that physical currency will disappear? As noted before, the key to having
credible commercial bank money is the promise that banks will convert a dollar of digital
bank money into a dollar of US physical currency. But how can banks deliver on their
promise if US currency disappears? Accordingly, many central banks are considering
adoption of a CBDC as their economies become ‘cashless’. Eliminating currency is a
policy choice, however, not an economic outcome, and Chair Powell has made clear that
US currency is not going to be replaced by a CBDC. Thus, a fear of imminently vanishing
physical currency cannot be the reason for adopting a CBDC.6
Could it be that the payment system is too limited in reach, and that introducing a
CBDC would make the payment system bigger, broader and more efficient? It certainly
doesn’t look that way to me. Our existing interbank payment services have nationwide
reach, meaning that an accountholder at one commercial bank can make a payment to
an account holder at any other US bank. The same applies to international payments
– account holders at US banks can transfer funds abroad to accountholders at foreign
banks. So, a lack of connectedness and geographic breadth in the US payment system is
not a good reason to introduce a CBDC.
Could it be that existing payment services are too slow? A group of commercial banks has
recently developed an instant payment service (the Real-Time Payment Service, or RTP),
and the Federal Reserve is creating its own instant payment service, FedNowsm.7 These
services will move funds between account holders at US commercial banks immediately
after a payment is initiated. While cross-border payments are typically less efficient
6 Physical currency can effectively disappear, and everything still works. All the central bank needs to do is promise to
provide the currency if requested.
7 These services will complement the existing automated clearinghouse (ACH) payment network, which now enables same-
day settlement of ACH payments.
than domestic payments, efforts are underway to improve cross-border payments as
well (Financial Stability Board 2020). These innovations are all moving forward in the
absence of a CBDC. Consequently, facilitating speedier payments is not a compelling
reason to create a CBDC.
122
Could it be that too few people can access the payment system? Some argue that
introducing a CBDC would improve financial inclusion by allowing the unbanked to
more readily access financial services. To address this argument, we need to know, first,
the size of the unbanked population, and second, whether the unbanked population
would use a Federal Reserve CBDC account. According to a recent Federal Deposit
Insurance Corporation (FDIC) survey, approximately 5.4% of US households were
unbanked in 2019.8 The FDIC survey also found that approximately 75% of the unbanked
population were “not at all interested” or “not very interested” in having a bank account.
If the same percentage of the unbanked population would not be interested in a Federal
Reserve CBDC account, this means that a little more than 1% of US households are
both unbanked and potentially interested in a Federal Reserve CBDC account. It is
implausible to me that developing a CBDC is the simplest, least costly way to reach this
1% of households. Instead, we could promote financial inclusion more efficiently by, for
example, encouraging widespread use of low-cost commercial bank accounts through
the Cities for Financial Empowerment Bank On project.9
Could it be that a CBDC is needed because existing payment services are unreasonably
expensive? In order to answer this question, we need to understand why the price charged
for a payment might be considered ‘high’. In economics, the price of a service is typically
composed of two parts: the marginal cost of providing the service and a markup that
reflects the market power of the seller. The marginal cost of processing a payment depends
on the nature of the payment (for example, paper check versus electronic transfer), the
technology used (for example, batched payments versus real-time payments), and the
other services provided in processing the payment (for example, risk and fraud services).
Since these factors are primarily technological, and there is no reason to think that the
Federal Reserve can develop cheaper technology than private firms, it seems unlikely
that the Federal Reserve would be able to process CBDC payments at a materially lower
marginal cost than existing private-sector payment services.10
The key question, then, is how a CBDC would affect the markup charged by banks for a
variety of payment services. The markup that a firm can charge depends on its market
power and thus the degree of competition it faces. Introducing a CBDC would create
8 “Key Findings from How America Banks: Household Use of Banking and Financial Services,” Federal Deposit Insurance
Corporation, https://www.economicinclusion.gov/surveys/2019household/.
9 See https://joinbankon.org/.
10 Note that section 11A of the Federal Reserve Act (12 U.S.C. § 248a) directs the Federal Reserve to establish a fee schedule
for its payment services. Over the long run, these fees are set “on the basis of all direct and indirect costs actually incurred
in providing [a service], including interest on items credited prior to actual collection, overhead, and an allocation of
imputed costs which takes into account the taxes that would have been paid and the return on capital that would have
been provided had the services been furnished by a private business firm . . . .”
additional competition in the market for payment services, because the general public
could use CBDC accounts to make payments directly through the Federal Reserve – that
is, a CBDC would allow the general public to bypass the commercial banking system.
Deposits would flow from commercial banks into CBDC accounts, which would put
pressure on banks to lower their fees or raise the interest rate paid on deposits to prevent 123
additional deposit outflows (Andolfatto 2021).

It seems to me, however, that private-sector innovations might reduce the markup
charged by banks more effectively than a CBDC would.11 If commercial banks are earning
rents from their market power, then there is a profit opportunity for nonbanks to enter
the payment business and provide the general public with cheaper payment services. And,
indeed, we are currently seeing a surge of nonbanks getting into payments. For example,
in recent years, ‘stablecoin’ arrangements have emerged as a particularly important type
of nonbank entrant into the payments landscape. Stablecoins are digital assets whose
value is tied to one or more other assets, such as a sovereign currency. A stablecoin could
serve as an attractive payment instrument if it is pegged one-to-one to the dollar and
is backed by a safe and liquid pool of assets.12 If one or more stablecoin arrangements
can develop a significant user base, they could become a major challenger to banks for
processing payments. Importantly, payments using such stablecoins might be ‘free’ in the
sense that there would be no fee required to initiate or receive a payment.13 Accordingly,
one can easily imagine that competition from stablecoins could pressure banks to reduce
their markup for payment services.
Please note that I am not endorsing any particular stablecoin – some of which are not
backed by safe and liquid assets. The promise of redemption of a stablecoin into one
US dollar is not perfectly credible, nor have they been tested by an actual run on the
stablecoin. There are many legal, regulatory and policy issues that need to be resolved
before stablecoins can safely proliferate. My point, however, is that the private sector is
already developing payment alternatives to compete with the banking system. Hence, it
seems unnecessary for the Federal Reserve to create a CBDC to drive down payment rents.
Returning to possible problems a CBDC could solve, it is often argued that the creation of
a CBDC would spur innovation in the payment system. This leads me to ask: Do we think
there is insufficient innovation going on in payments? To the contrary, it seems to me that
private-sector innovation is occurring quite rapidly – in fact, faster than regulators can
process. So, spurring innovation is not a compelling reason to introduce a CBDC.
11 The Federal Reserve’s longstanding policy is to offer new payment services to its accountholders only when “other
providers alone cannot be expected to provide [those services] with reasonable effectiveness, scope, and equity”. See
“Policies: The Federal Reserve in the Payments System” at https://www.federalreserve.gov/paymentsystems/pfs_frpaysys.
htm (issued 1984; revised 1990 and 2001).
12 A well-designed stablecoin would function similarly to ‘narrow banks’, which have a long tradition in economic theory
but have never existed in any serious way as a competitor for commercial banks. Narrow banks take deposits and issue
liabilities on themselves much like a standard bank. However, narrow banks hold only liquid, very safe assets that back up
their liabilities 100%. They do not make loans or hold risky securities.
13 However, stablecoin payments might not be free in the sense that stablecoin users would allow their financial transaction
data to be harvested and monetized.
Could it be, however, that the types of innovations being pursued by the private sector
are the ‘wrong’ types of payment innovations? I see some merit in this argument when I
consider cryptoassets such as bitcoin that are often used to facilitate illicit activity. But a
CBDC is unlikely to deter the use of cryptoassets that are designed to evade governmental
124 oversight.
Could the problem be that government authorities have insufficient information

regarding the financial transactions of US citizens? In general, the government has

sought to balance individuals’ right to privacy with the need to prevent illicit financial
transactions, such as money laundering. For example, while the government does not
receive all transaction data regarding account holders at commercial banks, the Bank
Secrecy Act requires that commercial banks report suspicious activity to the government.
Depending on its design, CBDC accounts could give the Federal Reserve access to a
vast amount of information regarding the financial transactions and trading patterns
of CBDC account holders. The introduction of a CBDC in China, for example, likely
will allow the Chinese government to more closely monitor the economic activity of its
citizens. Should the Federal Reserve create a CBDC for the same reason? I, for one, do
not think so.
Could the problem be that the reserve currency status of the US dollar is at risk and the
creation of a Federal Reserve CBDC is needed to maintain the primacy of the dollar?
Some commentators have expressed concern, for example, that the availability of a
Chinese CBDC will undermine the status of the US dollar. I see no reason to expect
that the world will flock to a Chinese CBDC or any other. Why would non-Chinese
firms suddenly desire to have all their financial transactions monitored by the Chinese
government? Why would this induce non-Chinese firms to denominate their contracts
and trading activities in the Chinese currency instead of the US dollar? Additionally,
I fail to see how allowing US households to, for example, pay their electric bills via a
Federal Reserve CBDC account instead of a commercial bank account would help to
maintain global dollar supremacy. (Of course, Federal Reserve CBDC accounts that are
available to persons outside the United States might promote use of the dollar, but global
availability of Federal Reserve CBDC accounts would also raise acute problems related
to, among other things, money laundering.)
Finally, could it be that new forms of private money, such as stablecoins, represent a
threat to the Federal Reserve for conducting monetary policy? Many commentators have
suggested that new private monies will diminish the impact of the Federal Reserve’s
policy actions, since they will act as competing monetary systems. It is well established
in international economics that any country that pegs its exchange rate to the US dollar
surrenders its domestic monetary policy to the United States and imports US monetary
policy. This same logic applies to any entity that pegs its exchange rate to the US dollar.
Consequently, commercial banks and stablecoins pegged to the dollar act as conduits
for US monetary policy and amplify policy actions. So, if anything, private stablecoins
pegged to the dollar broaden the reach of US monetary policy rather than diminish it.
After exploring many possible problems that a CBDC could solve, I am left with the
125
conclusion that a CBDC remains a solution in search of a problem. That leaves us only
with more philosophical reasons to adopt a CBDC. One could argue, for example,

that the general public has a fundamental right to hold a riskless digital payment
instrument, and a CBDC would do this in a way no privately issued payment instrument
can (Berentsen and Fabian Schar 2018). On the other hand, thanks to federal deposit
insurance, commercial bank accounts already offer the general public a riskless digital
payment instrument for the vast majority of transactions.
One could also argue that the Federal Reserve should provide a digital option as an
alternative to the commercial banking system. The argument is that the government
should not force its citizens to use the commercial banking system, but should instead
allow access to the central bank as a public service available to all (Andolfatto 2015).
As I noted earlier, however, the current congressionally mandated division of functions
between the Federal Reserve and commercial banks reflects an understanding that, in
general, the government should compete with the private sector only to address market
failures. This bedrock principle has stood America in good stead since its founding, and
I don’t think that CBDCs are the case for making an exception.
While CBDCs continue to generate enormous interest in the United States and other
countries, I remain sceptical that a Federal Reserve CBDC would solve any major
problem confronting the US payments system. There are also potential costs and risks
associated with a CBDC, some of which I have alluded to already. I have noted my belief
that government interventions in the economy should come only to address significant
market failures. The competition of a Fed CBDC could disintermediate commercial
banks and threaten a division of labour in the financial system that works well. And, as
cybersecurity concerns mount, a CBDC could become a new target for those threats.
I expect these and other potential risks from a CBDC will be addressed as the discussion
over digital currencies moves forward.
REFERENCES
Andolfatto, D (2015), “Fedcoin: On the Desirability of a Central Bank Cryptocurrency”,

Macromania Blog, 3 February.
Andolfatto, D (2021), “Assessing the Impact of Central Bank Digital Currency on Private
Banks”, The Economic Journal 131: 525–40.
Andolfatto, D, A Berentsen and C Waller (2016), “Monetary Policy with Asset-Backed

Money”, Journal of Economic Theory 164: 166–86.
BIS – Bank for International Settlements (2021), Annual Economic Report 2021.
Berentsen, A and F Schar (2018), “The Case for Central Bank Electronic Money and the
Non-Case for Central Bank Cryptocurrencies”, Federal Reserve Bank of St. Louis Review
100(2).
126
Committee on Payment and Settlement Systems (2003), The Role of Central Bank Money
in Payment Systems, Bank for International Settlements.
Financial Stability Board (2020), “FSB Delivers a Roadmap to Enhance Cross-Border

Payments”, news release, 13 October.
ABOUT THE AUTHOR
Christopher Waller is a Member of the Board of Governors of the Federal Reserve

System. He was confirmed in December 2020 and his term expires in 2030. Prior to
joining the Board, he was Executive Vice President and Director of Research at the
Federal Reserve Bank of St. Louis from 2009 to 2020. He began his career at Indiana
University-Bloomington from 1985-1998. He then moved to the University of Kentucky,
where he served as the C. M. Gatton Chair of Monetary Economics. In 2003, he joined
the University of Notre Dame as the Gilbert F. Schaefer Chair of Economics. His research
focuses on monetary theory and has been published in a variety of top scholarly journals
such as the American Economic Review and the Quarterly Journal of Economics. He
earned a BA from Bemidji State University (1981) followed by an MA (1984) and a PhD
(1985) in Economics from Washington State University.
CHAPTER 16
On the necessity and desirability of a 127
central bank digital currency
ON THE NECESSITY AND DESIRABILITY OF A CENTRAL BANK DIGITAL CURRENCY | ANDOLFATTO

David Andolfatto
Federal Reserve Bank of St. Louis
The movement behind central bank digital currency (CBDC) is gaining momentum. I
confess to playing a small role in promoting the idea (e.g. Andolfatto 2021a, 2021b). In
this chapter, I take a step back from this work and critically re-examine the arguments
I and others have made to support the CBDC initiative. I also assess some of the
arguments made against CBDC. I conclude that both sides are likely overstating their
respective cases. When I weigh all factors together, I conclude that, for the United States
at least, a retail CBDC is not essential and may not even be desirable. A wholesale CBDC,
on the other hand, is a variation on the theme that is worth considering. This latter
recommendation is nothing new – it corresponds to the old idea of enacting legislation
that would permit free entry into the business of narrow banking.
Let me begin by asking what makes CBDC a compelling idea. I like to think of it this
way. Imagine having to design a payments system from scratch. At its core, clearing and
settling payments boils down to messaging and bookkeeping. The act of debiting and
crediting money accounts in a ledger does not sound like rocket science – it sounds more
like Accounting 101. If we think about all the payments that are made every day between
customers and merchants, merchants and suppliers, employers and employees, private
and public agencies, and so on, what could be simpler than having all this bookkeeping
performed on a single ledger operated by a single accounts manager? And since we are
talking about money accounts, why not have these accounts consist of the nation’s legal
tender – digital versions of today’s paper bills and metal coins? And if we are talking about
legal tender money accounts, why not appoint the central bank as the trusted accounts
manager? This is the main idea behind a CBDC. It is a proposal to let all Americans
open chequing accounts consisting of digital fiat currency with the Federal Reserve. At
present, this privilege is limited to depository institutions and a few other agencies.
THE US PAYMENTS SYSTEM TODAY
A CBDC seems like an elegant solution to the problem of managing payments compared
to the system presently in place. The payments system today consists of three broad
layers. On the top layer, we have the US Federal Reserve, the nation’s central bank. The
second layer consists of private banks – specifically, depository institutions. While the
number of banks has been falling over time, there are still almost 5,000 banks in the
United States today, with the top ten banks holding about half of all deposits. Almost all
(95%) American households have bank accounts in this second layer.
Note that the money in bank accounts is not fiat currency – it consists of liabilities issued
128
by private banks. If a bank fails and if its deposit liabilities are not insured, the depositor
may incur a loss. These private banks, in turn, have accounts with the Federal Reserve.
The bank accounts held with the Federal Reserve are not subject to default. Traditionally,
private banks have been responsible for processing retail payments. Transactions
occurring between two parties not sharing the same bank are cleared through a variety
of payment systems, with net interbank surplus/deficit positions ultimately settled at the
central bank.
The third layer consists of several non-bank payment service providers (PSPs), like
Mastercard, PayPal and very soon, Facebook-sponsored Diem, as well as a rapidly
growing number of FinTechs eager to enter the business. Because this third layer is
presently prohibited from having reserve accounts, firms in this category cannot use the
Federal Reserve’s wholesale payment rails. As a practical matter, this implies that non-
bank PSPs must either partner with a bank or otherwise go through the private banks
to conduct at least a part of their business. This additional layer of intermediation has
been called into question by many observers. It is a layer that could be eliminated if a
wholesale CBDC were to be made available.
THE CASE FOR CBDC
CBDC advocates point to several benefits. First, because CBDC is fiat currency, CBDC
accounts are fully insured.1 Second, the problem of communicating across databases
speaking different languages for the purpose of clearing and settling payments is entirely
circumvented; at least, to the extent that all households and businesses choose to open
and use CBDC accounts. A CBDC would combine a common currency with a common
language – for example, the ISO 20022 global payment messaging standard – together
with real-time payments functionality. Third, a CBDC could be designed in a manner
that directly addresses the concerns people and businesses have over data privacy and
ownership. Fourth, the enterprise could be operated and funded in the manner of basic
public infrastructure. The purpose of this would be to promote financial inclusion or
otherwise level the playing field between large and small actors, say, by eliminating all
user fees and minimum balance restrictions (Crawford et al. 2021). It would also promote
competition and encourage innovation as FinTech firms would no longer need banks
1 While fiat money is labelled a liability of the government, it is not ‘debt’ in the way money represents a contractual
obligation under a gold standard or fixed exchange rate regime. For a monetary sovereign like the United States, fiat
money resembles equity more than it does debt. While dilution is a possibility, default is not.
to serve as their correspondents (Usher et al. 2021). There are other purported benefits
associated with a CBDC unrelated to payments, but I will touch on those arguments in a
later section.
129
BUT IS A CBDC NECESSARY?
Granted, the US payments system is not perfect. Even if we acknowledge that the

system has generally improved over time, there is little question that it has lagged its
counterparts in several other jurisdictions, including a number of so-called lesser-
developed economies. Whether a CBDC is the best, or even the only, way to optimise
payments going forward, however, should not be assumed a priori. And, indeed, a number
of commentators have made exactly this point (Koning 2021, Quarles 2021, Waller 2021).
Much of what I have to say in this section draws on their observations.
Let me go down the list of the purported benefits of a CBDC and reflect on each point. First,
it is true that CBDC accounts would be fully insured. But is the lack of deposit insurance
a concern for most retail users? The Federal Deposit Insurance Corporation presently
insures bank deposits up to $250,000 per account. It seems unlikely that households and
small businesses would be attracted to CBDC on the basis of relative safety. Money held
in non-bank PSP accounts is not insured. The fact that people willingly hold transaction
balances in such accounts further diminishes the suggestion that safety is a major
concern. Whether the same holds true at the wholesale level, however, is not entirely
clear. CBDC would provide universal access to a central bank deposit facility (rendering
the Fed’s Overnight Reverse Repo Facility, or ON RRP, redundant). The availability of
an interest-bearing CBDC might encourage corporate cash managers to substitute away
from repo arrangements into CBDC, avoiding the counterparty risk associated with the
shadow bank sector. Or, as my analysis in Andolfatto (2021a) suggests, the effect may
simply be to place a floor on money market rates without disintermediating private credit
arrangements. If this latter outcome is, as I conjecture, the more likely one, then the
relative safety of CBDC may not be a primary concern even at the wholesale level.
Second, it is true that processing payments would be made considerably easier if

everyone had a CBDC account – in particular, it would avoid the need to communicate
across databases when clearing and settling payments. On the other hand, this would
also be true if everyone had a Bank of America account. But these are (and are likely
to remain) hypothetical scenarios. In reality, American households and businesses
hold bank and non-bank accounts with thousands of firms. This is not going to change
anytime soon. While it is true that clearing and settling small-value payments across
all these databases takes some time (typically, two or three business days), there are
presently efforts underway to improve efficiency along this dimension. The automated
clearinghouse (ACH) network now enables same-day settlement of ACH payments. The
Clearing House has recently developed a real-time payments service that provides the
owners of bank accounts immediate access to their funds. A similar technology called
FedNow is being developed by the Federal Reserve. The case for a CBDC should not be
made on the assumption that the status quo is expected to persist. Rather, it needs to be
made in the context of an already rapidly developing payments system. In light of what
is, or what will soon be, available to most Americans through the initiatives described
130 above, the case for a CBDC seems considerably weakened.
Third, a CBDC could adopt protocols that allocate property rights over individual
transaction histories to the individuals generating those histories, as opposed to the

intermediaries that record this information. Individuals would then be free to use their
data to shop around to, for example, secure better terms on credit arrangements. But
again, a CBDC is not the only way to achieve this outcome. The result could instead be
achieved through appropriate legislation, as it is in the United Kingdom through its
Open Banking initiative. That legislation forces UK banks to create open interfaces into
previously locked customer accounts and payment systems.
Fourth, while the idea of basic payment services as a free public option sounds attractive,
it is not immediately clear how such a facility would promote the cause of financial
inclusion (which I take here to mean access to payment services, not credit). Most
American households already have bank accounts. Many also have non-bank transaction
accounts. The fraction of unbanked households in all other developed economies appears
to be much lower than in the United States, even though CBDC does not (yet) exist in
those jurisdictions. As for the charges and restrictions that are often applied to chequing
accounts, banks are increasingly making free checking services available to their
customers. Credit card companies often offer cards with zero fees, as long as borrowed
money is repaid at the end of each month. From the consumer side of things, at least,
the user cost of payment services already seems low – at least, for domestic payments.
The costs of international remittances remains relatively high, but these too have been
declining over time, especially through mobile payment options.2 It is conceivable that a
CBDC could complement the effort to reduce the costs of international money transfers.
But as the Bank for International Settlements notes (BIS 2021), the effort would require
international cooperation. One cannot help but wonder whether CBDCs would be needed
if that cooperation were forthcoming to begin with.
Although the user cost associated with making payments is either low or declining for
consumers, the same is not necessarily true for businesses. Credit card issuers (usually
credit card companies) and acquirers (usually banks) recover the cost of their operations
– and possibly more if they can exert market power – by charging fees to the merchants
that agree to accept card payments. The contractual terms often include an ‘honour all
cards’ rule that restricts the merchant from conditioning product prices on method of
payment. While larger firms are often able to negotiate more favourable terms, smaller
businesses have little bargaining power. They must either accept the terms or risk losing
2 See https://www.statista.com/statistics/962701/costs-of-remittances-by-payment-type
sales. This pricing protocol is complemented by the strategy of paying customers to use
their cards, typically through a rewards or cash-back programme. To put it another way,
card customer user costs are not only low, they are, in many cases, negative. The effect of
these practices is to encourage consumers to select the payment option with the highest
private reward – not necessarily the one with the lowest social cost. Higher costs must, 131
of course, be absorbed along other dimensions, including – but not limited to – higher
overall product prices.

Given the business model described above, how might an even zero user-cost CBDC
attract users? Cardholders already have access to several low-cost payment options. A
CBDC may potentially offer consumers a relatively high interest rate on their deposits,
but this is a reward for saving. Card companies reward consumers for spending. While
merchants would no doubt be happy if consumers were to switch en masse to a CBDC,
there would be no point in introducing the product – at least for this purpose – if
consumers are not willing to part with their beloved rewards programmes. If the success
of a CBDC depends on regulating interchange fees and rewards programmes, then what
is necessary is regulatory reform and not CBDC per se.
OTHER COSTS AND BENEFITS
CBDCs are also promoted and criticised for reasons not directly related to payments.
First, there are worries about what might happen if physical cash eventually disappears.
One concern is that monetary policy may no longer be able to determine the price level in
a ‘cashless’ economy. Physical currency, however, is better viewed as just one component
of a broader monetary aggregate. It seems unlikely that the price level depends critically
on the fraction of money balances people choose to hold in currency vis-a-vis other forms
of money (Andolfatto 2021a). Another concern is that zero-interest currency places an
effective lower bound on bank deposit rates. Absent this lower bound, banks may exert
their monopoly power to drive deposit rates to even lower levels (Usher et al. 2021).
However, it seems doubtful to me that currency is needed to avoid negative deposit rates.
In the United States, all US persons can open online accounts with the US Treasury
via Treasury Direct. If the yield on Treasury bills goes negative, it will be because of
monetary policy and not because of monopoly banking practices. In any case, the prospect
of cash disappearing seems less likely for the United States relative to other countries. If
anything, the global demand for US physical currency has been growing rapidly.
Second, CBDC is sometimes promoted as a way to encourage the disappearance of

physical currency. The concern here once again has to do with the zero lower bound. But
in this case, the lower bound is seen as an impediment to monetary stabilisation policy –
specifically, situations in which negative nominal interest rates are needed to stimulate
aggregate demand. I am sceptical of this argument for two reasons. First, a situation
that calls for negative interest rates is, in my view, better dealt with through fiscal policy.
Second, negative interest rate policy is already being applied in many countries where
physical currency still exists. CBDC is not needed to implement negative interest rate
policy.
Third, there is a concern that CBDC would disintermediate banks (although this is
132
considered to be a feature and not a bug by some proponents). It seems likely that a CBDC
that offers an interest rate higher than prevailing deposit rates would increase the cost of
funding for banks. It is not a priori clear, however, how these higher costs might impact
bank lending. Much will depend on monetary policy and market structure. Bank lending
is not likely to be much affected if the interest rate on CBDC is kept below the monetary
policy rate (Andolfatto 2021a). To the extent that banks have market power, they are
likely to see their profit margins squeezed as they raise deposit rates to retain what is still
a relatively cheap source of funding. But higher deposit rates may even expand the supply
of deposits. Theoretically, it is possible for this latter effect to increase bank-financed
investment (Chiu et al. 2019).
Fourth, some have suggested that a universally available central bank deposit facility is
likely to promote financial instability because it would provide an extremely convenient
‘flight-to-safety’ vehicle – even more so than physical cash (which pays no interest and
has a maximum denomination of $100 in the United States). This argument fails to take
into account at least three important considerations. First, if a run on banks occurred for
this reason, the Federal Reserve would stand ready to lend at the discount window and
standing repo facility. Second, the CBDC rate itself could be made state-contingent. In
particular, it could be lowered significantly during a run event, thereby discouraging mass
redemptions of bank deposits. Third, the empirical evidence we have does not support the
concern. A number of commentators made similar predictions in regard to the Federal
Reserve’s ON RRP facility when it was first introduced.3 Ahnert and Macchiavelli (2021)
find that money market funds that had access to the ON RRP facility during the 2013
debt-ceiling crisis exhibited greater stability relative to their peers that did not.
Finally, there are those who fear that the US dollar’s status as a world reserve currency
will be in jeopardy if the United States does not follow the lead of China, its main global
competitor. There are a number of factors working against this outcome. First, a world
reserve currency supplier must stand prepared to run potentially very large current
account deficits. For better or worse, the United States is willing to do so. The Chinese
economic model, however, encourages the exact opposite – something that is not likely
to change anytime soon. Second, growth in the global demand for US dollars, treasury
securities and dollar-denominated assets continues unabated. CBDC is not needed to
encourage the global appetite for US dollars.
3 While ON RRP is not technically a deposit facility, it operates like one.

CONCLUSIONS
There is much to like about CBDC at a conceptual level. Every person in the world already
has permissionless access to Federal Reserve liabilities in the form of paper currency.
Why should the privilege not be extended to the digital component of Federal Reserve 133
liabilities? This is a good question, but the example of physical currency may not be apt.
First, payments made with physical currency are cleared and settled on a peer-to-peer

basis. The Federal Reserve plays no role in facilitating such transactions, apart from
providing the medium of exchange. Second, the technology associated with peer-to-peer
currency exchange has not changed very much over time, apart from advances that have
made counterfeiting more difficult.
CBDC, in contrast to physical cash, would require the services of an intermediary. It is a

legitimate question to ask whether a central bank accustomed to serving a relatively small
wholesale sector might possess the culture necessary to handle large-scale customer
demands at the retail level. Relatedly, can one plausibly expect a public sector agency to
keep pace with technological advances the way profit-seeking private enterprises can?
Some recent evidence is not encouraging on this score. Compare, for example, how rapidly
the Clearing House implemented its real-time payment system relative to FedNow, which
is still in the works after years of consultation and deliberation. As George Selgin has
pointed out,4 proponents of CBDC who lament how the US has fallen behind the rest of
the world fail to note that the rest of the world is ahead not because other countries have
CBDC, but because they have superior private-sector payments arrangements. I would
only amend his observation by changing ‘superior private-sector’ to ‘superior private–
public-sector’ arrangements because no money and payments system is purely private or
public enterprise – and the best outcomes tend to occur through well-designed private–
public collaborations.
In any case, even if the US payments system is lagging the rest of the world in some
respects, it is not light-years behind. More efficient protocols are being adopted and
innovation in the FinTech space is already advancing at a rapid pace. The remaining
hurdles have more to do with the pricing power of large credit card companies and banks,
together with inadequate legislation. If this is the case, then perhaps a wholesale CBDC
is the way to go. The idea here would be to let companies like PayPal, Square, Novi and
smaller FinTechs gain access to Fed Master Accounts and the Fed’s wholesale payment
rails. Any non-bank with access to a Fed Master Account should be required to hold
100% of its assets either in reserves or treasury bills (and possibly longer dated treasury
securities if access to the Fed’s standing repo facility is also granted). In short, these
firms should be granted something akin to a ‘narrow bank’ charter. Other countries seem
4 https://threadreaderapp.com/thread/1443904543302070272.html
prepared to follow this route. The Bank of England (2017), for example, now permits non-
bank PSPs to apply for settlement accounts in the Bank’s RTGS system. Perhaps it’s time
for the United States to follow suit.
134
REFERENCES
Ahnert, T and M Macchiavelli (2021), “Safe Assets and Financial Fragility: Theory and
Evidence”, SSRN 3460800.
Andolfatto, D (2021a), “Assessing the Impact of Central Bank Digital Currency on Private
Banks”, The Economic Journal 131(634): 525-540.
Andolfatto, D (2021b), “Some Thoughts on Central Bank Digital Currency,” Cato Journal,
Spring/Summer.
Bank of England (2017), “Bank of England Extends Direct Access to RTGS Accounts to
Non-bank Payment Service Providers”, 19 July.
BIS – Bank for International Settlements (2021), “III. CBDCs: An Opportunity for the
Monetary System”, in BIS Annual Economic Report 2021.
Chiu, J, M Davoodalhosseini, J Jiang and Y Zhu (2019), “Central Bank Digital Currency
and Banking”, Bank of Canada Staff Working Paper 2019-20.
Crawford, J, L Menand and M Ricks (2021), “FedAccounts: Digital Dollars”, The George
Washington Law Review 89(1).
Koning, J P (2021), “To CBDC or Not to CBDC?”, American Institute for Economic
Research, 5 July.
Quarles, R K (2021), “Parachute Pants and Central Bank Money”, speech at the 113th
Annual Utah Bankers Association Convention, 28 June.
Usher, A, E Reshidi, F Rivadeneyra and S Hendry (2021), “The Positive Case for a CBDC,”
Bank of Canada Staff Discussion Paper 2021-11.
Waller, C J (2021), “CBDC: A Solution in Search of a Problem?”, speech at the American

Enterprise Institute, 5 August.
ABOUT THE AUTHOR
David Andolfatto is a Senior Vice President in the Research Department at the Federal
Reserve Bank of St. Louis. He was a professor of economics at the University of
Waterloo (1991-2000) and Simon Fraser University (2000-2009), before joining the Fed
in July 2009. Mr. Andolfatto has published several articles in the profession’s leading
economic journals, including the American Economic Review, the Journal of Political
Economy, and the Journal of Economic Theory. In 2009, he was awarded the Bank
of Canada Fellowship Award for his contributions in the area of money, banking, and
monetary policy. Mr. Andolfatto is a native of Vancouver, Canada and received his Ph.D.
in economics from the University of Western Ontario in 1994.
135

CHAPTER 17
Building a stronger financial system: 137
Opportunities for a digital dollar
BUILDING A STRONGER FINANCIAL SYSTEM: OPPORTUNITIES FOR A DIGITAL DOLLAR | DUFFIE

Darrell Duffie1
Graduate School of Business, Stanford University
It would benefit the United States to develop an effective and secure digital dollar. This
would be a direct obligation of the Federal Reserve, distributed to the public by regulated
private-sector payment service providers. At the same time, the relevant US agencies
should also make major improvements in the legacy bank-railed US payments system.
Maintaining cybersecurity and privacy while controlling illegal payments will be a

challenging design problem. Without engagement of the private sector, a centralised
payments system could also impair innovation. Nevertheless, it seems likely to me that
a US digital dollar will ultimately be deployed. The lengthy required development work
should begin now.
The project will need the innovative power of the private sector, while increasing the
reach and quality of government regulation. The development process will require
resources and time, perhaps more than five years, but could generate large beneficial
technology spillovers to the digital economy. It may inspire both pricing and technology
innovation in firms that currently provide bank-railed payment services.
In May 2021, Lael Brainard, a governor of the Federal Reserve, remarked that the United
States should be involved in discussions of standards for the design and uses of central
bank digital currencies (CBDCs) (Brainard 2021). This will be necessary for the country
to maintain its leadership in international payment-related markets.
The Fed should also prepare a strategy for preventing undesirable cryptocurrencies from
gaining traction in US payments. A digital dollar can play a role here by providing an
officially supported alternative, though compliant and useful stablecoins would also help.
As a starting point, the MIT Digital Currency Initiative and the Federal Reserve Bank
of Boston have made progress on Project Hamilton (Rosengren 2021). This is the ‘R’ in
R&D. The ‘D’ will require more resources, and an implementation plan that balances
privacy against protection from illegal payments.
1 The author is a member of the board of directors of TNB Inc, which wishes to offer narrow bank deposits but has been
unable to obtain a deposit account at the Fed. TNB’s charter prevents it from offering payment-related products and
services. The author is compensated by TNB with either equity or otherwise.
WHY CAN’T BANKS DO THIS?
US banks could implement an effective low-cost payments system, but they have not
done so due to regulation, network effects that limit entry and profit incentives.
138
Alice has for centuries paid Bob by asking her bank to debit her deposit account in favour
of Bob’s account at his bank. This is still the case today. Moreover, banks protect the
privacy of their customers while monitoring payments for their legality.
Commercial bank deposits can be provided in interoperable forms suitable for smart
contracting. A more advanced interoperable payments system based on bank deposits is
feasible.
Currently, Americans are not getting competitive payment-related services from banks,
and their primary payment instrument – their bank deposits – is compensated with
extremely low interest rates. When wholesale market interest rates rise, consumer bank
deposit interest rates usually stay near zero (Driscoll and Judson 2013, Drechsler et al.
2017). It often takes more than a day for US merchants to receive their payments. North
Americans pay about 2.3% of GDP for payment services (McKinsey 2020), far more than
Europeans, in particular due to extremely high fees for credit cards (Figure 1).
FIGURE 1 A BREAKDOWN OF PAYMENT REVENUES BY TYPE
6.1% 9.1%
11.1%
Commercial
9.1% 25.2%
Cross-border transactions
11.1%
Account-related liquidity
3.0%
14.5%
9.1% Domestic transactions
3.6%
Commercial cards
3.1%
17.2% Cross-border transactions
Consumer
18.7%
Account-related liquidity
Domestic transactions
10.7%
33.3% Credit cards
15.1%
North America Rest of world

$0.542 trillion $1.456 trillion
Note: Data are from McKinsey (2020).

US banks and credit card providers operate what Rochet and Tirole (2003) called a two-
sided market. On one side of the market, merchants pay high payment fees; on the other,
consumers are offered low direct payment fees, and sometimes rewards. Combine this
with the positive network effects of a common payments system that is convenient for
consumers to use, and almost all market participants are effectively bound to the bank- 139
railed system, making competitive entry difficult.

Ultimately, consumers bear some of the burden of merchant payment fees through higher
prices for goods and services. To make their payments, many consumers borrow money
at high interest rates on their card accounts or put aside cash in bank accounts that offer
woefully low interest rates.
Banks have little to gain by making it simple for their customers to move their cash to
the highest bidder. They maintain ‘walled gardens’ that discourage financial consumers
from shopping around. Banks have also underinvested in fast, interoperable payment
technologies, so the Fed has stepped in with its real-time payment system, FedNow,
which will be ready in a couple of years. FedNow will improve the speed of payments
and offer other efficiency gains but does not, on its own, deliver improved competition for
payment services.
This has understandably led to calls for alternatives: FinTech payment firms, private
stablecoins like Diem (Catalini 2021), and CBDCs. Now is the time for Congress to give
the Fed the legal power to introduce a digital dollar, and to encourage (or direct) the Fed
to test a digital dollar technology so that it could be deployed at short notice.
There is no need yet to make a commitment to deploy the digital dollar. Common
knowledge that an effective digital dollar is under development could give banks the
incentives they currently lack to offer Americans a better payments system.
Low-cost FinTech payment firms, especially if given Fed accounts, might grab bank
payment franchises. This happened in China, where 94% of mobile payments are now
processed by Alipay and WeChatPay, with 90% of residents of China’s largest cities using
these services as their primary method of payment (Klein 2020, Business Today 2020).
Or, stablecoins like Diem might disintermediate banks.
Some banks may stall investment, believing that the US government will not act
aggressively to open a path by which consumers and businesses can get access to better
options, such as a CBDC or other new types of FinTech payment services. If incumbent
banks do not respond, then one or more of these options should be deployed.
A digital dollar might also improve financial inclusion. A 2020 study by the Federal
Deposit Insurance Corporation estimated that about 7.1 million US households were
unbanked, and many others underbanked. As noted by Janet Yellen, US Treasury
Secretary:
“Too many Americans don’t have access to easy payments systems and banking
accounts, and I think this is something that a digital dollar, a central bank digital
currency, could help with” (New York Times 2021).
The use of paper money in US payments declined from 51% in 2010 to 28% in 2020
140
(McKinsey 2020). In the future, those without access to electronic payments may be
isolated from parts of the economy. A CBDC could, however, actually accelerate this
decline, if not properly designed, so special attention should be given to unbanked and
underbanked Americans.
CBDC technology also offers options for more efficient implementation of monetary and
fiscal policy – for example, faster dissemination of Covid-19 relief payments to millions of
Americans (Digital Dollar Foundation and Accenture 2020). The Fed might improve the
transmission of monetary policy by real-time measurement of monetary variables, and
perhaps offering interest on CBDC.
CHALLENGES FOR A CBDC
The greatest challenge for CBDC designers is protecting privacy while detecting money
laundering and the financing of terrorism. If there is a central regulator, data will
also need to be protected from cyberattacks and surveillance. China has not hesitated
to concentrate CBDC payment data in the hands of its central bank, but China is an
authoritarian state. Centralised databases containing personal information may not be
popular in the United States.
Along with the digital dollar, Americans could be given an option to access the payment
system with standardised biometric identities – as deployed for India’s UPI interoperable
payment interface, from which the United States can learn (D’Silva et al. 2019).
The United States could opt for a decentralised approach to holding data in banks
and FinTech firms, although without effective regulation on standardisation and
interoperability, this two-tiered market structure could become as clunky as the current
bank-railed payments system. To avoid this, payment service providers should be tightly
regulated to ensure open access, service levels, and – importantly – interoperability
(Darko et al. 2021).
Another potential downside of a CBDC is that technology innovation could become more
centralised within government – not usually a formula for success. This can be overcome
with carefully designed public–private partnerships.
If the CBDC is not sufficiently resilient, an operational accident could cause millions of
Americans to suffer. Congress could then feel obliged to step in. This could reduce the
independence of the Fed. A Fed digital dollar should not be deployed until its technology
is bulletproof (within the limits of technology), making it even more important to begin
the development work now.
A heightened risk of bank runs would be a disadvantage of a digital dollar. However,
banks have liquidity requirements, and can pledge assets to the Fed in exchange for loans
to meet deposit redemptions. Although a CBDC would make it easier to quickly withdraw
deposits from a bank, this risk can be managed satisfactorily.
141
The increased mobility of money associated with a well-designed and heavily used CBDC
would force banks to compete more aggressively for deposits, driving up deposit interest

rates. This is good for consumers, and bad for bank shareholders. But the amount of credit
offered by banks would not suffer significantly. Banks do not currently offer unprofitable
loans, using the irrational justification that they can recoup the associated losses by
exploiting their below-market deposit rates. The set of loans that are profitable for banks
to offer at any point would be about the same, on average, although some smaller banks
in outlying areas might have difficulty making the transition to a more competitive
payment system. In the end, the US government should not allow an inefficient payment
system to persist so that depositors can subsidise banks.
The potential for disrupting banks, while real, should not be a reason for avoiding CBDCs.
The banking industry is likely aware that disruption is coming, one way or another, and
should prepare to offer a better payment system.
INTERNATIONAL IMPLICATIONS
Most of the world’s central banks are now working on CBDCs (Boar and Wehrli, 2021).
Few have specific plans to issue CBDCs, but some have moved from research to active
development. Active CBDC developers include the People’s Bank of China, Sweden’s
Riksbank (Sveriges Riksbank 2021), the Bank of Canada (2021), the ECB (2021), the Bank
of Korea (Kim 2021), and the Bank of Japan (2021). But among major economies, only
China has committed to deploying a CBDC.
It is possible that eCNY, China’s new CBDC, could reduce the international dominance
of the US dollar. These concerns are not a good reason to rush out a digital dollar before
it is carefully designed. The international dominance of the US dollar rests on the lack
of US barriers to cross-border capital flows, the depth and liquidity of markets for US
Treasuries and other financial instruments, the fairness and stability of the US legal
system, and the reliability of US monetary and financial policy (Gopinath and Stein 2021,
Gourinchas 2019, Jiang et al. 2020, Maggiori et al. 2021). This is not easy for China to
replicate.
In the (unofficially translated) words of Li Bo, Deputy Governor of the People’s Bank of
China:
“The internationalisation of the RMB is a natural process. Our goal is not to

replace the US dollar or other currencies, but to let the market make choices to
further facilitate international trade and investment” (Sun and Yan 2021).
That said, China leads the US in retail payment technology. China’s mobile payment
service providers have such deep market penetration that the desire to limit their
dominance was one of the key government motivations for introducing eCNY.
eCNY will be part of a rich payment ecosystem. Although representatives of the People’s
142
Bank of China have emphasised that eCNY is not intended for ‘yuanisation’ of the
economies of other countries, China is making arrangements for cross-border use of
eCNY with other CBDCs, including those of Thailand, Hong Kong, and the United Arab
Emirates (Hong Kong Monetary Authority 2021). There are also potentially important
business-to-business cross-border applications of eCNY (Ekberg and Ho 2021).
eCNY could open up international commercial opportunities for Chinese firms and could
increase the influence of China in emerging-market economies. However, the US should
avoid competing with an internationally accessible US CBDC, given the impact that a
digital dollar could have on small open economies through its potential for interference
with local monetary policy. The United States should support the development of
international agreements to protect foreign monetary systems from disruption by
another country’s CBDC.
Governor Brainard’s remarks correctly suggest that a US CBDC technology would place
the United States in a better position to influence international forums that set technical
standards and make intergovernmental agreements for the cross-border use of CBDCs.
Such agreements are already coming into G7 discussions (Auer et al. 2021, Associated
Press 2021, US Department of the Treasury 2021).
If CBDC technology uses public–private partnerships, US firms could provide payment

technologies in international markets. US banks have been ceding commercial
advantage to Chinese banks in international markets, in part because of US regulations
and sanctions.
CONCLUSIONS
The United States would benefit by beginning the years-long development of a digital
dollar. The design should prioritise the efficiency of payments, privacy, interoperability,
financial inclusion and the ability to monitor payments for compliance. The final decision
to deploy the digital dollar should be delayed until more is learned about its design, costs
and benefits. Delaying the start of development until the point in time that the need for a
CBDC becomes obvious is a poor strategy.
The United States should also take a leadership position in international official
discussions on the use – domestic and cross-border – of CBDCs.
In parallel, efforts should continue to be made to improve the competitiveness and

efficiency of the legacy US payment system. Success here could relieve the United States
from an eventual need to deploy a CBDC. FedNow is an important milestone, and
regulation could be used to further encourage innovation and competition for payment-
related services. The Fed, for example, has recently considered offering accounts to
‘novel’ payments firms under appropriate conditions (Board of Governors of the Federal
Reserve System 2021). Effective and compliant stablecoins can also play a positive role.
143
REFERENCES

Associated Press (2021), “Japan wants G7 finance chiefs to ‘thrash out’ digital currency
policy at talks as China trials continue”, South China Morning Post, 9 February.
Auer, R, P Haene, and H Holden (2021), “Multi-CBDC arrangements and the future of
cross-border payments”, BIS Paper 115.
Bank of Canada (2021), “Contingency Planning for a Central Bank Digital Currency”,
Bank of Canada.
Bank of England (2021), “New Forms of Digital Money”, Discussion Paper, Bank of
England.
Bank of Japan (2021), “Commencement of Central Bank Digital Currency Experiments”,

Bank of Japan.
Bloomberg News (2021), “China Says It Has No Desire to Replace Dollar With Digital
Yuan”, 18 April.
Board of Governors of the Federal Reserve System (2021), “Proposed Guidelines for
Evaluating Account and Services Requests”, Federal Reserve Board.
Boar, C and A Wehrli (2021), “Ready, steady, go? – Results of the third BIS survey on
central bank digital currency”, BIS Paper 114.
Brainard, L (2021), “Private Money and Central Bank Money as Payments Go Digital: An
Update on CBDCs”, speech At the Consensus by CoinDesk 2021 Conference, Washington,
DC, Federal Reserve Board.
Business Today (2020), “Alipay retains leadership position with 55% market share in
China’s mobile payments market”, 9 July.
Catalini, C (2021), “From cryptocurrencies, stablecoins and Diem to CBDCs”, Diem,

OMFIF conference.
Digital Dollar Foundation and Accenture (2020), “The Digital Dollar Project: Exploring
a US CBDC”, Digital Dollar Project.
Drechsler, I, A Savov, and P Schnabl (2017), “The Deposits Channel of Monetary Policy”,

The Quarterly Journal of Economics 132: 1819–1876.
D’Silva, D, Z Filková, F Packer, and S Tiwari (2019), “The design of digital financial
infrastructure: Lessons from India”, BIS Paper 106.
Duffie, D, K Mathieson, and D Pilav (2021), “Central Bank Digital Currency: Principles
for Technical Implementation”, Digital Asset white paper.
Driscoll, J, and R Judson (2013), “Sticky Deposit Rates”, Federal Reserve Board,
Washington DC working paper.
144
Ekberg, J and M Ho (2021), A New Dawn for Digital Currency, Oliver Wyman.
European Central Bank (2021), A Digital Euro.
Federal Deposit Insurance Corporation (2020), “How America Banks: Household Use of
Banking and Financial Services”, FDIC.
G7 Finance Ministers and Central Bank Governors (2021), “Communiqué”, 5 June.
Gopinath, G, and J Stein (2021), “Banking, Trade, and the Making of a Dominant
Currency”, The Quarterly Journal of Economics 136: 783–830.
Gourinchas, P-O (2019), “The Dollar Hegemon: Evidence and Implications for Policy
Makers”, presentation at the 6th Asian Monetary Policy Forum, Singapore.
Hong Kong Monetary Authority (2021), “Joint statement on Multiple Central Bank
Digital Currency (m-CBDC) Bridge Project”, The Government of Hong Kong Special
Administrative Region.
Jiang, Z, A Krishnamurthy, and H Lustig (2020), “Dollar Safety and the Global Financial
Cycle”, NBER Working Paper 27682.
Kim, C (2021), “S. Korea’s c.bank moves to develop pilot digital currency”, Reuters, 24
May.
Klein, A (2020), “China’s Digital Payment Revolution”, Brookings Global China Discussion
paper.
Maggiori, M, B Neiman, and J Schreger (2021), “International Currencies and Capital

Allocation”, Journal of Political Economy 128: 2019-2066.
McKinsey and Company (2020), The 2020 McKinsey Global Payments Report.
New York Times (2021), “U.S. Treasury Secretary Janet Yellen on Covid-19 Pandemic,
Economic Recovery and More”, Dealbook DC Policy Project video, 22 February.
Powell, J (2021), “Message on Developments in the U.S. Payments System”, Federal

Reserve Board, 20 May.
Sveriges Riksbank (2021), “E-Krona Pilot: Phase 1”, Sveriges Riksbank.
Rochet, J-C, and J Tirole (2003), “Platform Competition in Two-sided Markets”, Journal
of the European Economic Association 1: 990-1029.
Rosengren, E (2021), “Remarks at the Panel Discussion, `Central Bank Perspectives
on Central Bank Digital Currencies’”, Program on International Financial Systems,
Harvard Law School.
Sun, L and P Yurong (2021), “Central Bank: The current development focus of the digital
145
RMB is to promote domestic use”, China Finance, sina.com 19 April (in Chinese).
US Department of the Treasury (2021), “G7 Finance Ministers & Central Bank Governors

Communiqué,” 5 June.
Zhou, X (2021), “China’s Choices in Developing Its Digital Currency System”, Caixin, 20
February.
ABOUT THE AUTHOR
Darrell Duffie is the Adams Distinguished Professor of Management and Professor of

Finance at Stanford University’s Graduate School of Business. He is a Fellow of the
Econometric Society, a Research Fellow of the National Bureau of Economic Research
and a Fellow of the American Academy of Arts and Sciences. Duffie was the 2009
President of the American Finance Association. In 2013-2014, Duffie Chaired the Market
Participants Group, charged by the Financial Stability Board with recommending
reforms to Libor, Euribor, and other interest-rate benchmarks. Duffie’s recent books
include How Big Banks Fail (Princeton University Press, 2010), Measuring Corporate
Default Risk (Oxford University Press, 2011) and Dark Markets (Princeton University
Press, 2012).
CHAPTER 18
How to provide a secure and efficient 147
settlement asset for the financial
A SECURE AND EFFICIENT SETTLEMENT ASSET FOR THE FINANCIAL INFRASTRUCTURE OF TOMORROW | MAECHLER AND WEHRLI
infrastructure of tomorrow
Andréa M. Maechler and Andreas Wehrli
Swiss National Bank
EMERGING DIGITAL ASSET ECOSYSTEMS
The tokenisation of financial assets and their trading on infrastructures that

employ distributed ledger technology (DLT) could transform financial markets.
The innovative potential of tokenisation is visible in new ‘smart’ business processes
(such as shared rules with automated execution among multiple parties), new tradable
asset classes (e.g. tokenised corporate bonds, real estate and pieces of art) and enhanced
operational efficiency.1 Although its potential is yet to be fully proven, DLT-based
technology could have far-reaching consequences for the functioning of financial market
infrastructures.2
Should DLT-based financial infrastructures become systemically important,

it will be critical to ensure the safety and integrity of payments on these novel
infrastructures. These payments are generally considered ‘wholesale’ payments because
they take place among regulated financial institutions (as opposed to retail payments,
which involve end-users or merchants). Wholesale payments are generally considered
systemic in nature, because they tend to be very large and make up for the bulk of
payments in terms of value.3 Even one missed or delayed payment by one institution
could create havoc for another institution, which may need to receive this payment before
it can fulfil some of its own payments obligations.
Today’s traditional financial infrastructures have largely succeeded in mitigating

the risks associated with settling trades in wholesale markets. They have done so
partly by requiring large-value wholesale payments to be settled using central bank
1 Traditionally, all financial institutions have managed their own data silos, with separate records of transactions, securities
events and other data points. In contrast, DLT would permit institutions to share an identical and continually synchronised
database of immutable entries.
2 Ongoing adjustments in statutory and regulatory frameworks (e.g. the Swiss ‘DLT bill’ which enables the creation, and
trading, of ledger-based securities that are represented on a blockchain) and the commercial launch of DLT-based
financial infrastructures (e.g. the SIX Digital Exchange (SDX), which recently received approval from the Swiss Financial
Market Supervisory Authority FINMA to operate DLT-based financial market infrastructures) indicate that DLT-based
infrastructures may well play essential roles in the future.
3 Switzerland's RTGS system is a case in point. It handles both large-value and retail payments. In 2020, large-value
wholesale payments accounted for only 2.5% of the transactions, but made up 89.7% of turnover in terms of value.
money. With the emergence of novel types of infrastructures, it has become important to
review the role of central bank money as a settlement asset. To date, the new tokenised
infrastructures tend to use cryptocurrencies, stablecoins or tokenised commercial bank
money to settle trades. While useful, these forms of money do not impart the same
148 confidence as central bank money does – the only asset without credit or counterparty
risk. These considerations, while separate from the ongoing discussions about the use of
digital central bank money for retail purposes, are vital to assure the solid functioning of,
and the general public’s trust in, the financial system.
As new technologies continue to emerge, it is worth examining how past solutions,

which ensured trust in financial infrastructures, can inform today’s discussions.
We argue that a similar economic issue challenged central banks starting in the mid-
1970s, when the failure of a medium-sized German bank nearly caused havoc on a
global scale. A stable long-term solution was eventually achieved by way of introducing
real-time gross settlement (RTGS) systems across the world. These RTGS systems are
generally managed by central banks and require central bank money to be used as the
main settlement asset.
Today’s challenges regarding DLT-based financial infrastructures are both

practical (e.g. in what sense are they more efficient?) and conceptual (e.g. how can
they ensure the same level of trust in the financial system?). It is vital to combine
applied technical experimentation and high-level policy research in order to come up
with useful answers. This chapter therefore also touches on some of the lessons learned
from recent projects that explore the role of central bank money in wholesale financial
infrastructures for digital assets.
THE IMPORTANCE OF SECURE CASH SETTLEMENT
While the innovative potential of tokenised assets is the focus of many industry
efforts, it represents only half the story. Sellers must also transfer the tokenised
assets to the buyers, and buyers must pay the sellers. The settlement of a securities
trade thus involves two types of transfers, or ‘legs’. In the delivery leg, ownership of a
security is transferred from the seller to the buyer, while the payment leg consists of the
transfer of money from the buyer to the seller. A crucial question is: what types of ‘money’
are acceptable as settlement assets?
If the new infrastructures are to become large, a sustained and secure solution
for the payment leg is needed. Today, cryptocurrencies, stablecoins and tokenised
commercial bank money are used to settle trades on many tokenised asset platforms.
important. As the importance of these platforms grows, it will be vital to assure that
their payment leg cannot be affected unduly by settlement and counterparty risks.
One of the essential tasks of modern central banks is the provision of a safe,
efficient and liquid ‘settlement asset’, in particular for systemically important
financial market infrastructures. The secure settlement of large-value transactions
is a prerequisite for the overall stability of the financial system. Financial market
transactions, as a rule, involve substantial amounts and are time-critical, and they are 149
therefore of great significance for the non-financial, or real, economy as well. This is why
it is essential to place the execution of large-value transactions on a reliable foundation
(Maechler 2018).
We contend that private agents alone will not deliver solutions that meet the
requirements of security and efficiency for systemically important infrastructures.
The commercial logic of innovation, speed and scale needs to be balanced with security
and trust in order to achieve a sustained solution. To achieve this, both the public and the
private sector have important roles to play.
LESSONS FROM THE PAST
In recent decades, central bankers have faced challenges similar to the ones
they contemplate today. For instance, technological progress and rising trading
volumes in the 1970s led to some substantial mishaps in financial markets. A famous
example is the collapse of Germany’s Herstatt Bank in 1974, when the bank’s failure to
meet its payment obligations caused a near-meltdown of international FX settlement
in large global banks operating in New York. We have since learned that problems in
cash settlement can have systemic implications. If left unaddressed, these problems can
trigger a domino-like chain reaction of unfulfilled payment obligations.
Even though the technological context is very different today, the fundamental
economic question is the same: how to design a secure and efficient settlement
solution that protects buyers and sellers from settlement and counterparty risk? In
the aftermath of the Herstatt incident, RTGS systems were created, in which electronic
central bank money is used to settle large-value or wholesale transactions. Payments
executed on an RTGS system are final and irrevocable. In combination with robust
settlement mechanisms, this solution succeeded in taking the issue of settlement risk
‘off the table’ in financial markets for more than 30 years, and it has thus stood the test
of time.
THE ROLE OF CENTRAL BANK MONEY IN ROBUST SETTLEMENT

MECHANISMS
A major challenge in securities trading is settlement risk, i.e. the risk that the
parties to the transaction may fail to honour their obligations. History shows that
the severity of this risk must not be underestimated. As anyone who has been to garage
sales and flea markets knows, cash is still king in many transactions among strangers –
one person hands over the merchandise, the other simultaneously hands over the cash.
This is a quintessential example of a delivery-versus-payment (DVP) mechanism. Any
mechanism that is less direct – for instance, with a time delay between the two legs – and
any settlement asset not issued by central banks exposes the trading parties to various
150 forms of settlement and credit risk.
Efficient and secure asset trading requires robust settlement mechanisms. Starting
in the 1980s, the need to minimise settlement risk led to a gradual move from deferred
net settlement to RTGS systems. These payment systems were also increasingly linked
with securities settlement systems to permit an efficient and secure association of both
legs of a securities transaction. The resulting DVP mechanism ensures that delivery of
the security occurs if, and only if, the delivery of the payment leg occurs. This concept
and its associated technology were as revolutionary in the 1980s as DLT is today.
Securities trading also requires a trustworthy settlement asset. Central bank

money is the most secure such asset. Its security derives from the twin facts that it is
risk free (as it represents account holders’ claims on the central bank itself) and that the
exchange of the cash balances is performed entirely on the books of the central bank.
These features permit the payments to be final and irrevocable. Should central bank
money not be available for the settlement of wholesale financial transactions of tokenised
assets, then stablecoins would be plausible alternatives. However, while they could be
tailored to meet efficiency needs, they cannot robustly satisfy the safety needs.
The use of central bank money fosters trust, not only in the dependability of the
payment system but in money itself (CPSS 2003). For instance, it establishes a solid
protection against the domino effect described above. In addition, the use of central bank
money has facilitated, over the years, several waves of innovation in securities trading
and settlement systems.4
EXPLORING SOLUTIONS FOR THE FUTURE
Central banks need to think ahead and ensure that they remain able to fulfil their
mandates in a rapidly changing digital landscape. With new ecosystems emerging,
central banks once more face the fundamental task of providing a secure settlement asset
for tomorrow’s financial infrastructure. Given the global nature of the ongoing changes
in the financial system landscape, the Swiss National Bank (SNB) works closely with
other central banks and favours pursuing an interdisciplinary approach.
Over the past year and a half, the SNB, in collaboration with the BIS Innovation
Hub and the financial infrastructure operator SIX, has tested two options for
introducing central bank money into DLT-based financial infrastructures (BIS et
4 The forthcoming ability to provide instant payments at retail level is also facilitated by the integral use of central bank
money.
al. 2020). Specifically, we have leveraged the SDX initiative of a regulated, DLT-based
trading, settlement and custody infrastructure to test the viability of (1) interoperability
between a DLT platform and the existing Swiss RTGS system (Figure 1, left-hand side);
and (2) issuing a wholesale CBDC (wCBDC) on the DLT platform (Figure 1, right-hand
side). 151
FIGURE 1 TWO OPTIONS FOR CASH SETTLEMENT WITH DLT-BASED FINANCIAL MARKET
INFRASTRUCTURES
Only “asset let” settled on “Cash leg” & “asset let”

the DLT platform settled on the DLT platform
We have learned that both the RTGS link and a wCBDC can be used to settle the
payment leg for transactions of tokenised assets. Both options are technically feasible
and legally robust under Swiss law. The RTGS link is operationally simpler for a central
bank, while wCBDC has more upside potential in terms of innovation and efficiency
gains vis-à-vis the settlement process.
The scope of the experiments was recently expanded to explore end-to-end

transactions among several commercial banks that employ their own core banking
systems. One key factor that will determine the future success of novel infrastructures is
whether they can provide robust bridges to existing infrastructures. We therefore strive
to conduct these experiments under very realistic operational, legal and policy conditions.
We are also expanding the scope of the experiments to explore the use of wCBDC in
settling cross-border transactions. Until now, we have experimented exclusively within
a single-currency framework. For an international financial centre such as Switzerland,
it is natural to expand the scope of the investigation to examine cross-border transactions
and to contribute to ongoing work aimed at overcoming challenges in cross-border
settlements (CPMI et al. 2021). In close collaboration with the Banque de France, the BIS
Innovation Hub and a private sector consortium led by Accenture, the recently launched
Project Jura will explore the conduct of cross-border settlement with two wCBDCs and a
French digital financial instrument on a DLT platform (BIS et al. 2021).
152
CONCLUSION
The ease of use and the safety associated with money as a means of payment
influence the degree of trust the population is willing to place in a currency. In order
to establish and maintain this trust, sustainable solutions are needed where they matter
most. Given the huge volume and value settled on a daily basis in the wholesale segment
of the financial system, robust mechanisms for containing settlement and counterparty
risk are essential. The historical lesson of unsettled payments by a relatively small bank,
which did not involve exchange of central bank money and which jeopardised trust in the
then-existing financial system, illustrates this point. In reaction to this experience, a new
type of payment standard was introduced – RTGS systems – along with a requirement
that systemically important financial market infrastructures settle obligations in central
bank money whenever practical and available (CPMI and IOSCO 2012).
If novel types of financial infrastructures become systemically important, it will

be essential for central banks to understand how they can operate with the same
level of safety, efficiency and trust as the existing ones do.5 Their emergence also
points to a critical need to understand and address a host of additional challenges, such
as a tendency for increased market fragmentation, and to better understand how these
developments could affect central banks’ ability to implement monetary policy effectively.
If, where, when and how central bank money will be offered for settling tokenised
asset trades depends on many factors. Policy objectives, legal constraints and practical
operational requirements for scalability, speed and security will guide central banks’
next steps. As there will be no ‘one size fits all’ solution, central banks will continue to
investigate various options of how they may continue to fulfil their mandates as financial
markets evolve.
REFERENCES
BIS, Swiss National Bank and SIX (2020), “Project Helvetia: Settling tokenised assets in
central bank money”, December.
BIS, Banque de France and SNB (2021), “Bank for International Settlements Innovation
Hub, Swiss National Bank and Bank of France collaborate for experiment in cross-border
wCBDC”, June.
5 See also recent guidance from CPMI and IOSCO confirming and clarifying that stablecoin arrangements should observe
international standards for payment, clearing and settlement systems (https://www.bis.org/cpmi/publ/d198.htm).
CPMI and IOSCO – Committee on Payments and Market Infrastructures and
International Organization of Securities Commissions (2012), Principles for Financial
Market Infrastructures, April.
CPMI, BIS Innovation Hub, International Monetary Fund and World Bank (2021),
153
Central bank digital currencies for cross-border payments, July.
CPSS – Committee on Payment and Settlement (2003), August), “The role of central bank
money in payment systems”, CPMI Papers No.55, Bank for International Settlements.
Maechler, A M (2018), “The financial markets in changing times. Changes today and
tomorrow: the digital future”, speech at the SNB Money Market Event, 5 April.
ABOUT THE AUTHORS
Andréa M. Maechler is a Member of the Governing Board of the Swiss National Bank. In
this role, she heads Department III, which includes the areas of financial markets, banking
operations, asset management, and information technology. She studied economics at
the University of Toronto and then at the Institut de Hautes Etudes Internationales in
Geneva, where she obtained a Master’s degree in international economics. She pursued
her doctoral studies in international economics at the University of California in Santa
Cruz, graduating in 2000. Prior to joining the SNB, she occupied senior positions at a
number of institutions, including the IMF and the European Systemic Risk Board
(ESRB). She is also a member of the Advisory Board of the Department of Banking and
Finance at the University of Zurich.
Andreas Wehrli is an advisor to the Head of Department III at the SNB. He studied at
the University of Fribourg, where he obtained his Master’s in German studies and art
history. He also holds a Master’s in Business from Oxford Brookes University and is a
CFA Charterholder. He recently spent 9 months at the CPMI secretariat of the Bank
for International Settlements (BIS), where he contributed to work on stablecoins and
central bank digital currencies. His current work focuses on issues related to payments
and digital innovation. On these topics, he contributes to SNB projects, publications and
speeches by senior management.
CHAPTER 19
Central bank digital currencies: Taking 155
stock of architectures and technologies
CENTRAL BANK DIGITAL CURRENCIES: TAKING STOCK OF ARCHITECTURES AND TECHNOLOGIES | AUER, CORNELLI AND FROST
Raphael Auer, Giulio Cornelli and Jon Frost1
Bank for International Settlements
A NEW FORM OF CENTRAL BANK MONEY
Around the world, central banks are researching a new form of money: central bank
digital currency (CBDC). While the concept of broadening access to central bank money
was proposed decades ago (e.g. Tobin 1987), central banks were initially slow to embrace it.
This has changed with the declining use of cash – more so during the Covid-19 pandemic,
the emergence of cryptocurrencies and the possible entry of private ‘stablecoins’ (G7
Working Group on Stablecoins 2019, FSB 2020).2 CBDCs, if issued, could become a new,
third form of central bank money – alongside physical cash accessible to the public, and
central bank reserves accessible to many financial institutions.
National interest in the topic differs, as do the policy approaches and technologies being
considered. Some central banks are experimenting with CBDCs, while others have
decided that they see no need. And even where CBDCs are being studied, technological
and economic designs differ, with very different implications for the monetary and
financial system (Auer and Böhme 2021).
In recent research (Auer et al. 2020c), we analyse the economic and institutional drivers
of CBDC projects, thus shedding light on their motivations. We then assess the policy
approaches and technical design of projects, and commonalities and differences across
countries.
A NEW CBDC DATABASE
We assemble a comprehensive, publicly available database from three sources of

information.3 First, to measure the stance on issuance, we use the database of central
bank speeches maintained by the Bank for International Settlements (BIS). We search
1 This chapter draws on Auer et al. (2020c), with data updated to 1 October 2021. The views expressed are those of the
authors and do not necessarily reflect those of the Bank for International Settlements.
2 In the Covid-19 pandemic, attention to CBDCs has been enhanced due to concerns about viral transmission through cash
(Auer et al. 2020a) and the need for remote payments and pandemic-related government-to-person payments that reach
the whole population (Auer et al. 2020b).
3 The database is available online at https://www.bis.org/publ/work880.htm
the universe of over 16,000 speeches for terms such as “CBDC” or “digital money”. We
then classify the stance as either negative, neutral, or positive.4 We differentiate the
stance by wholesale and retail CBDC.5 The results are presented in Figure 1.
156 FIGURE 1 SPEECHES ON CBDCS HAVE TURNED MORE POSITIVE SINCE LATE 2018
Number of speeches
80
60
40
20
–20
–40
2016 2017 2018 2019 2020 2021
Cumulative count of speeches: Positive stance: Negative stance: Net, positive–negative
Retail CBDC
Wholesale CBDC
Notes: Search on keywords “CBDC”, “digital currency” and “digital money”. The classification is based on the authors’
judgement. The score takes a value of –1 if the speech stance was clearly negative or in case it was explicitly said that there
was no specific plan at present to issue digital currencies. It takes a value of +1 if the speech stance was clearly positive or
a project/pilot was launched or was in the pipeline. Other speeches (not displayed) have been classified as neutral.
Source: Auer et al. (2020c).
FIGURE 2 CBDC PROJECTS STATUS
BS
ECCB
JM HK
SG
Project phase:
Live retail CBDC
Retail pilot ongoing
Retail pilot completed
Retail research
Retail research and wholesale project
Wholesale project
N/A
Notes: BS = The Bahamas; ECCB = Eastern Caribbean Central Bank; HK = Hong Kong SAR; JM = Jamaica; SG = Singapore.
The use of this map does not constitute, and should not be construed as constituting, an expression of a position by the BIS
regarding the legal status of, or sovereignty of any territory or its authorities, to the delimitation of international frontiers
and boundaries and/or to the name and designation of any territory, city or area.
4 This is based on authors’ judgement. A negative stance is when the speech was clearly negative towards CBDCs or
explicitly said there was no plan to issue a CBDC. A positive stance is when speeches are clearly positive or said that a pilot
or project was in the pipeline.
5 So-called wholesale CBDCs could become a new instrument for settlement between financial institutions. Retail (or general
purpose) CBDCs would be cash-like central bank currency accessible to all. The issuance of CBDCs would be a far-reaching
step, and many open questions remain.
The second source is published CBDC project reports and in-depth interviews we
conducted with the respective authors. Starting from central bank webpages, we consult
all published reports by central banks on wholesale and retail CBDC projects. We only
use official reports, not rumours and unconfirmed press articles. We have classified these
into four ‘buckets’: no project, research, a pilot, or a live CBDC. A growing number of 157
central banks has communicated on their CBDC work, and several are actively piloting a
retail or wholesale CBDC (Figure 2). The Central Bank of the Bahamas and the Eastern
Caribbean Central Bank have now launched live retail CBDCs.
The third source is internet search interest. In our paper, we use Google Trends and Baidu
trends to gauge the search intensity of keywords like “CBDC” for the period 2013–20.
STOCK TAKING DRIVERS AND TECHNICAL DESIGNS OF CBDCS
The technical designs of CBDC also vary. This requires us to distil the main attributes
of different CBDC projects. One way to do so is the ‘CBDC pyramid’ of Auer and Böhme
(2020).6 Figure 3 classifies four attributes of ongoing retail CBDC projects: architecture,
infrastructure, access and cross-border (retail or wholesale) interlinkages. Among the
retail CBDC projects in our sample, we find a wide variety of approaches to these four
attributes across jurisdictions.
FIGURE 3 THE CBDC PYRAMID
Notes: The CBDC pyramid maps consumer needs (left-hand side) onto the associated design choices for the central bank
(right-hand side). The four layers of the right-hand side form a hierarchy in which the lower layers represent design choices
that feed into subsequent, higher-level decisions.
Source: Auer and Boehme (2020).
6 The pyramid gives a taxonomy of technical designs, starting from consumer needs. The scheme of design choices forms a
hierarchy in which the lower, initial layers represent design decisions that feed into subsequent, higher-level decisions.
Central banks must first decide on the architecture – or the operational role that the
central bank and private intermediaries will play in a CBDC system (see Figure 4).
FIGURE 4 RETAIL CBDC ARCHITECTURES AND FULLY BACKED ALTERNATIVES

158
Notes: In the ‘direct CBDC’ model (top panel), the CBDC is a direct claim on the central bank, which also handles all
payments in real time and thus keeps a record of all retail holdings. Hybrid CBDC architectures incorporate a two-tier
structure with direct claims on the central bank while real-time payments are handled by intermediaries. Several variants
of the hybrid architecture can be envisioned. The central bank could either retain a copy of all retail CBDC holdings (second
panel), or only run a wholesale ledger (third panel). In the indirect architecture (bottom panel), a CBDC is issued and
redeemed only by the central bank, but this is done indirectly to intermediaries. Intermediaries, in turn, issue a claim to
consumers. The intermediary is required to fully back each claim with a CBDC holding at the central bank. The central bank
operates the wholesale payment system only.
Source: Auer and Böhme (2021).
Auer and Böhme distinguish four architectures:
• In a ‘direct CDBC’ architecture, the central bank directly operates the payment
system, offers retail services directly and maintains the ledger of all transactions.
• In a ‘hybrid CBDC’, the payment system runs on two engines: private intermediaries 159
handle retail payments, but the CBDC is a direct claim on the central bank.7
• ‘Intermediated CBDC’ is similar to hybrid CBDC, but the central bank maintains
only a wholesale ledger rather than a central ledger of all retail transactions.
Again, the CBDC is a claim on the central bank and private intermediaries execute
payments.
• An alternative to CBDC design is the indirect provision of retail digital money

via financial intermediaries. We note that, as this does not allow the consumer to
directly access central bank money, it is not a retail CBDC (Bank of Canada et al.
2020). Consumers have claims on intermediaries, which operate all retail payments.
These intermediaries fully back all liabilities to retail clients with claims on the
central bank.
In our stocktake (see Figure 5, left-most panel), we find that only two central banks are
considering a direct model (as part of research); a full 27 central banks are considering
the hybrid, intermediated or multiple options; and a larger group has not yet specified
the architecture.8
Second, central banks must decide on the infrastructure. Specifically, a CBDC can be
based on a conventional centralised database or on DLT. These technologies differ in
their efficiency and degree of protection from single points of failure. DLT often aims
to replace trust in intermediaries with trust in an underlying technology. Yet no central
bank we examined aims to rely on permissionless DLT, as used for Bitcoin and many
other private cryptocurrencies. We find 5 central banks running prototypes on DLT, 6
with conventional technology and 11 considering both. Yet these infrastructure choices
are often for first proofs-of-concept and pilots. Only time will tell if the same choices are
made for large-scale designs.
Third, central banks must decide how consumers can access the CBDC. Account-based
CBDCs are tied to an identity scheme, which can serve as the basis for well-functioning
payments with good law enforcement. Yet, access is likely to be difficult for one core
target group: the unbanked and individuals who rely on cash. This allows for token-
based payment options, for example pre-paid CBDC ‘banknotes’ that can be exchanged
both physically and digitally. However, this also brings new risks of illicit activity and
7 The hybrid CBDC comes in two variants: the central bank can either keeps a central ledger of all transactions, which allows
it to restart payments, or it can maintain only a wholesale ledger (the ‘intermediated’ variant).
8 We also examine whether central banks pursue the so-called synthetic or indirect CBDC model. The latter involves claims
on private sector intermediaries that are fully backed by central bank reserves. However, at current, no public report
indicates that a central bank is pursuing this indirect/synthetic architecture.
counterfeiting. In our stocktake, tiering of account- and token-based access is more
common, with nine central banks clearly leaning toward this feature, seven towards
account-based and a further five looking at token-based access.
Fourth, central banks face a design choice in retail and wholesale interlinkages,
160
including accessibility for cross-border payments. Some designs may allow for use by
non-residents. most of the projects in our sample are for domestic use. Yet several – by the
European Central Bank, the French, Spanish and Dutch central banks, and the Eastern
Caribbean Central Bank – are by construction focused on use among the members of a
multi-country currency area.
FIGURE 5 ATTRIBUTES OF RETAIL CBDC PROJECTS
Architecture Infrastructure Access Interlinkages
30 30 33 21
20 20 22 14
10 10 11 7
__ 0 0 0 0
tl
tl
c.
c.
t
n
ct
le
T
.
c.
t
ed
t
ec
nv
.
ct
un
.
na
Na
ke
DL
un
erm
de
de
nv
de
ltip
ire
ire
cid
Dir
Co
co
To
Int
co
Un
Un
Co
Un
Ind
Mu
ind
Int
de
Ac
ac
T&
Un
n/
or
nd
DL
ke
id
.a
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br
erm
Hy
Int
Notes: Interm. = intermediated; Multiple = two or more options among direct, hybrid and intermediated under
consideration; Undecided = undecided/unspecified or multiple options under consideration; DLT = distributed ledger
technology; Conv. = Conventional; Token/account = tiering of token- and account-based access; Natl = national use; Intnatl
= international use.
A NEW MULTITUDE OF PAYMENTS
The diversity of approaches and designs reflects that each central bank is considering
a CBDC that fits the unique needs of its own jurisdiction. Yet our overview has also
revealed some key common features. In particular, none of the designs we survey
intends to replace cash; all aim to complement it. And most projects would allow for an
important role of the private sector in the payment system. To encourage greater learning
and allow for future interoperability, ongoing dialogue and peer learning among central
banks remains important (e.g. CPMI and Markets Committee 2018, Bank of Canada et
al. 2020).
REFERENCES
Auer, R and R Böhme (2020), “The technology of retail central bank digital currency”,
BIS Quarterly Review, March: 85–100.
161
Auer R and R Böhme (2021), “Central bank digital currency: the quest for minimally
invasive technology”, BIS Working Paper No. 948.
Auer, R, G Cornelli and J Frost (2020a), “Covid-19, cash and the future of payments”, BIS
Bulletin No. 3, April.
Auer, R, J Frost, T Lammer, T Rice and A Wadsworth (2020b), “Inclusive payments for
the post-pandemic world”, SUERF Policy Note No. 193.
Auer, R, G Cornelli and J Frost (2020c), “Rise of the central bank digital currencies:
drivers, approaches and technologies”, CEPR Discussion Paper 15363, October.
for International Settlements (2020), Central bank digital currencies: foundational
principles and core features, Report No 1, Bank for International Settlements.
CPMI – Committee on Payments and Market Infrastructures and Markets Committee

(2018), “Central bank digital currencies”, CPMI, Markets Committee Papers No. 174,
March.
FSB - Financial Stability Board (2020), Regulation, Supervision and Oversight of ‘Global
Stablecoin’ Arrangements, October.
G7 Working Group on Stablecoins (2019), Investigating the impact of global stablecoins,

October.
Tobin, J (1987), “The case for preserving regulatory distinctions”, Proceedings of the
Economic Policy Symposium, Jackson Hole, Federal Reserve Bank of Kansas City, pp.
167–83.
ABOUT THE AUTHORS
Raphael A. Auer is Principal Economist in the Innovation and Digital Economy unit
of the Bank for International Settlements (BIS). He is a CEPR Research Fellow and
president of the Central Bank Research Association, and holds a PhD in economics
from MIT. Prior to joining the BIS, he was Deputy Head of International Trade
and Capital Flows and Economic Advisor at the Swiss National Bank; as well as an
associated research professor at the Konjunkturforschungsstelle of ETH. During 2009-
10, he was a Globalization and Governance Fellow at Princeton University. His current
policy work focuses on issues related to cryptocurrencies, stablecoins and central bank
digital currency. His research interests also cover the interaction of international
trade and macroeconomics, examining in particular how exchange rates pass through
into domestic inflation and how the global production network gives rise to globally
synchronized inflation dynamics.
Giulio Cornelli is a Senior Financial Market Analyst in Monetary and Economic

162
Department, Departmental Research Support of the Bank for International Settlements
(BIS). Before joining the BIS, Giulio Cornelli worked in the International Policy Analysis
division at the ECB. Giulio holds a BSc and an MSc in economics and social sciences from
Bocconi University. He is a CFA® charterholder and a certified Financial Risk Manager.
Jon Frost is a Senior Economist in the Innovation and the Digital Economy unit of
the Bank for International Settlements (BIS). In this role, he conducts policy-oriented
research on financial innovation and digitalisation. He has written on FinTech credit,
BigTech in finance, and technology and inequality. Previously, Jon served as a Member
of the Secretariat at the Financial Stability Board (FSB), supporting the FSB’s work
on financial innovation for the G20. This included work on applications of artificial
intelligence and machine learning, decentralised financial technologies, RegTech
/ SupTech, and crypto-assets. Jon is seconded to the BIS from the Financial Stability
Division in the Dutch central bank (DNB). Prior to DNB, he worked at various roles
in the private sector in Germany, and taught at VU University in Amsterdam. Jon is a
U.S. national. He holds an MA degree in economics from the University of Munich in
Germany, and a PhD in economics from the University of Groningen in the Netherlands.
He is a research affiliate of the Cambridge Centre for Alternative Finance at the
University of Cambridge.
Within a few years, retail central bank digital currency
Central Bank Digital Currency: Considerations, Projects, Outlook

(CBDC) has morphed from an obscure fascination
of technophiles and monetary theorists into a major
preoccupation of central bankers. Pilot projects abound
and research on the topic has exploded as private
sector initiatives such as Libra/Diem have focused
policymakers’ minds and taken the status quo option
off the table.
In this eBook, academics and policymakers review the

economic, legal and political implications of CBDC; they
discuss current projects; and they look ahead. While
consensus on the ‘right’ CBDC choices remains elusive,
common perspectives begin to emerge. First, money,
banking and payments are ripe for upheaval, with or
without CBDC. Second, the key risk of CBDC is unlikely
to be bank disintermediation – privacy, information
more generally, and politics may be more critical. Third,
the use case for CBDC must be clarified, country by
country. It may not exist, because of alternative, better
solutions to the existing problems. And fourth, as the
implications of CBDC go far beyond the remit of central
banks, parliaments and voters should have the final say.
Central Bank Digital

Currency: Considerations,
ISBN: 978-1-912179-54-1 Projects, Outlook
ISBN 978-1-912179-54-1
9 781912 179541

CBDC Lo Mas Nuevo

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Within a few years, retail central bank digital currency

Central Bank Digital Currency: Considerations, Projects, Outlook

In this eBook, academics and policymakers review the

Edited by Dirk Niepelt

Central Bank Digital

Centre for Economic Policy Research

Copyright © CEPR Press, 2021.

Edited by Dirk Niepelt

CEPR, which takes no institutional positions on economic policy matters, is delighted to

intermediation, by disciplining banks in imperfectly competitive deposit markets; and

Corinne Zellweger-Gutknecht offers a legal perspective. Placing central bank money in

Tobias Adrian and Tommaso Mancini-Griffoli offer an international perspective. They

areas or offer an overview over such projects.

3. whether the CBDCs would undermine monetary sovereignty in emerging

4. whether they would reduce the political support for cash.

disagreed as to whether CBDC would be interest-bearing and whether privacy protection

ABOUT THE AUTHOR

intermediation and payments

INTEREST-BEARING CBDC CAN CROWD IN BANKING

FIGURE 1 EFFECTS OF THE INTEREST RATE ON CBDC

Source: Chiu et al. (2019).

NON-INTEREST-BEARING CBDC IN A CASHLESS WORLD

Source: Chiu et al. (2019).

OTHER CONSIDERATIONS FOR FUTURE RESEARCH

Attributes of payment balances

• Maturity and liquidity transformation: Banks specialise in creating short-

Huynh, K, J Molnar, O Shcherbakov and Q Yu (2020), “Demand for Payment Services

Schilling, L, J Fernández-Villaverde and H Uhlig (2020), “Central Bank Digital Currency:

ABOUT THE AUTHORS

DATA AND MONOPOLIES

changing economic and financial conditions, especially in periods of financial stress.

Acquisti, A, C Taylor, and L Wagman (2016), “The economics of privacy”, Journal of

ABOUT THE AUTHORS

of Economics at ITAM in Mexico City. Todd’s research focuses on models of money,

in the digital age: A triple imperative

FIGURE 1 THE MONETARY SYSTEM WITH A RETAIL CBDC

Source: Auer and Böhme (2021).

FIGURE 2 IDENTIFICATION IN CBDCS AND TRUST IN COUNTERPARTIES

Notes: AR = Argentina; AU = Australia; BE = Belgium; BR = Brazil; CA = Canada; CH = Switzerland; CL = Chile; CN = China;

The judicious simplification of the monetary architecture afforded by CBDCs holds

Cross-border payments, especially in correspondent banking, are highly costly due to

Bank for International Settlements (2021b), “Multiple CBDC (mCBDC) Bridge”.

Sebastian Doerr is an economist at the Bank for International Settlements in the

issue retail digital currency

MONETARY MANDATES AND MONEY SUPPLY TO THE PUBLIC (THEN AND

Adverse experiences with inflation or even hyperinflation, however, eventually led to a

THE MULTI-LAYERED AND ESSENTIAL ROLE OF CASH IN MODERN

In monetary systems structured as described above, cash plays an essential, multi-

Account balances and tokens

Unlike account balances, tokens represent an arbitrarily designated amount of money.

Impermissible use as a monetary policy instrument

contrast, according to current law, cash is not an instrument of monetary policy. If it

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ABOUT THE AUTHOR

Corinne Zellweger-Gutknecht is a Professor of Private Law, Corporate and Commercial

‘RESERVES FOR ALL:’ POLITICAL RATHER THAN MACROECONOMIC RISKS | NIEPELT

BANK ‘FUNDING COST REDUCTION AT RISK’

‘RESERVES FOR ALL:’ POLITICAL RATHER THAN MACROECONOMIC RISKS | NIEPELT